Insights

Portfolio Manager Eric Rothman discusses the quiet performance advance of real estate investment trusts (REITs), how rate cuts have been a catalyst for REIT performance and institutional investors’ interest in real estate.

With REITs’ quiet performance advance, do real estate stocks have further room to run?

In the third quarter of 2024, Real Estate was the second-best performer among the S&P 500’s 11 sectors, and over the past year ended September 30, 2024, the FTSE Nareit All Equity REITs Index rose 35%. Even with the significant advance, we believe real estate stocks have more room to run. Since the end of 2021, when the Federal Reserve started raising interest rates, through September 20, 2024, there has been a 30-percentage point gap between the performance of the FTSE Nareit All Equity REITs and the S&P 500 Indices.

This gap also leaves room for REITs to catch up from an earnings and valuation standpoint. Historically, many REITs have traded 2-3x higher on a forward multiple basis than the S&P 500. Currently, REITs are more than 1x lower multiple than the S&P 500.

With the Fed’s September rate cut along with several cuts planned, we appear to be in a new monetary environment. Lower interest rates tend to benefit the REIT market in many ways, including the fact that REITs’ dividend yields become more competitive. Importantly, sentiment has improved. While understated, sentiment can be a powerful mover of the capital markets.

How have REIT’s historically performed after the Fed starts a rate cutting cycle?

Policy rate cuts have historically been a catalyst for REIT performance. Historically REITs have experienced double digit returns over the following 2 and 3 years after the first rate cut. In addition, public REITs have also outperformed private real estate.

Would you please comment on institutional buying activity in the Real Estate sector?

We are pleased to see capital from institutional buyers, institutional assets, and private equity looking for alternative real estate companies with solid assets, strong balance sheets, and top-tier management teams.

A period of tumult in commercial real estate markets can expose companies with weaker, undercapitalized balance sheets, but, conversely, it also highlights those that have well-capitalized, strong balance sheets. We have seen many REITs emerge as a stronger company after purchasing a weaker peer at an accretive value and driving its own earnings growth.

In addition, merger and acquisition activity can be a strong signal that there’s a valuation opportunity in the market. Earlier this year, there were two different take-private transactions, both led by Blackstone, the world’s largest alternative asset manage.

What is most encouraging is the amount of capital from sophisticated buyers investing in the REIT and broader commercial real estate markets. Earlier this year, there were two IPOs, which we have not seen in over two years:

1. American Healthcare REIT launched in early February and has doubled its initial IPO price through the end of the third quarter of 2024.
2. Lineage, an industrial REIT and logistics solutions provider, raised $4.4 billion and was 10 times oversubscribed.

Debt capital appears to be lining up on the sidelines to come into the market. In the unsecured bond market in the third quarter, there has been $14 billion of unsecured bonds issued, adding up to a total of $41 billion on a year-to-date basis.