Real Estate Weekly Outlook
U.S. equity markets rallied this week as solid corporate earnings results and another slate of stellar housing data contrasted with data showing a record plunge in economic output last quarter and data showing a mild – but still worrying – reacceleration in jobless claims. Ahead of a critical week of employment data that is likely to show a deceleration – or perhaps outright reversal – in the pace of the economic recovery, investors did take solace from encouraging coronavirus data that showed that daily case counts and hospitalizations in the United States have again started to wane after a sharp acceleration since mid-June that prompted some states to reverse reopenings.
Gaining for the fourth week out of the past five, the S&P 500 ETF (SPY) rose by 1.7% this week, climbing back into positive territory for 2020. Mega-cap technology names – notably Apple (AAPL), Facebook (FB), and Amazon (AMZN) – powered the gains this week following a slate of strong second-quarter results. Speaking of strong results, real estate equities were also among the leaders this week after a surprisingly solid start to earnings season as rent collection continues to improve while the majority of REITs have held dividends steady after a frenzy of cuts in Q1. The broad-based Equity REIT ETF (VNQ) finished higher by 2.7% this week with 16 of 18 property sectors in positive territory while the Mortgage REIT ETF (REM) gained 3.0%.
The gains were accelerated this week after the Federal Reserve showed little indication of taking its foot off the gas pedal in providing unprecedented levels of monetary support, sending the 10-Year Treasury Yield (IEF) to the lowest weekly close on record. Meanwhile, lawmakers in D.C. continue to battle over the final details of the next round of fiscal stimulus with the benefits provided by the CARES Act lapsing as of July 31, including the Federal enhanced unemployment benefits and the moratorium on evictions. Beneath the bluster, the politics appear to align to maintain the highly-supportive fiscal stimulus regime, which has been quite effective in offsetting the near-term effects of the destructive economic lockdowns that continue to linger to varying degrees.
Perhaps just as critical as the fiscal and monetary support, the resilient strength of the U.S. housing sector – the largest asset class in the world – has been tremendously impactful in laying the groundwork for the post-pandemic recovery. Homebuilders and the broader Hoya Capital Housing Index were once again among the leaders this week after another slate off stellar housing data. The NAR reported that Pending Home Sales surged 16.6% in June, following last week’s report that Existing Home Sales spiked by a record-high 20.7%. Perhaps the most notable data this week was data showing that the homeownership rate jumped to the highest level since 2008 at 67.9%, driven by a continued rise in the millennial household formation rate. The 35- to 45-year-old cohort saw homeownership rates climb more than one percentage point to 64.3%, the highest in more than 10 years.
Consistent with the demographic trends we’ve discussed, we forecast a steady uptick in the homeownership rate over the next decade as millennials – the largest generation in American history – begin to enter “ownership age.” Gains in the homeownership rate, however, did not come at the expense of the rental markets. Housing markets remain historically tight as the vacancy rate for both rental and owner-occupied units remains at or near 40-year lows. The homeowner vacancy rate ticked lower to 0.9% which was the lowest level on record. The rental vacancy fell sharply lower to 5.7% which was the lowest vacancy rate since 1981, perhaps seeing some positive effects of the moratorium on evictions that is set to lapse at the end of July.
Instead, gains in the homeownership rate – and declines in the vacancy rates of both rented and owned households – came as a result of gains in total household formations. Total household formations have increased by 1.9% over the last 12 months, which is the strongest 12 months of growth in household formations since 1985. There are roughly 20 million more U.S. households now than there were at the start of 2000. Given the abnormally large five-year cohort of 25-29 year-olds, we believe that the household formation rate will see continued gradual increases over the next five years as this “mini-generation” enters prime first-time homebuying age, but will likely see a slowdown over the next several quarters related to the coronavirus-induced recession before rebounding strongly in 2021 and 2022, which will provide a very positive fundamental backdrop for housing-related industries.
Real Estate Economic Data
Below, we analyze the most important macroeconomic data points over the last week affecting the residential and commercial real estate marketplace.
Commercial Equity REITs
REIT earnings season officially hit high-gear and is already approaching the halfway-mark after six dozen equity REITs and a dozen mortgage REITs reported results this week. Last week, we published Dividend Cuts And Overdue Rent: Previewing Earnings Season. Results thus far have generally been better-than-expected with nearly a dozen REITs boosting full-year guidance, to the surprise of many analysts. Rent collection has remained largely a non-factor for the “essential” property sectors with collection rates averaging over 95% while retail REITs have noted a steady and sequential improvement over the last four months. We analyze the notable earnings of the past week across the major property sectors below.
After a quiet two months of dividend cuts in June and July, office REIT Vornado Realty (VNO) broke the silence this week by announcing a 20% cut in its quarterly dividend from $0.60 to $0.53 per share, the first and only REIT to announce a reduction during Q2 earnings season so far. We have now tracked 60 equity REITs – primarily retail and lodging REITs – out of our universe of 170 that have now announced a cut or suspension of their common dividend, roughly a third of the equity REIT sector. This week, Armada Hoffler (AHH) and American Assets (AAT) each increased their Q3 dividend after reducing their Q2 distribution, but to levels still below their prior distribution rate. Roughly 95 REITs have maintained dividends at pre-pandemic levels while roughly a dozen have raised dividends in 2020.
Data Center: All five data center REITs reported results this week, combining for a record-breaking quarter of incremental leasing revenues, the most closely-watched metric for the sector. Digital Realty (DLR) gained 4.3% this week after reporting a record-breaking $144 million in incremental leasing revenues in Q2 while raising its 2020 core FFO per share outlook. CoreSite (COR) gained 3.5% this week after reporting $7.9 million in leasing revenues compared to $12 million last quarter. CyrusOne (CONE) gained 5.1% this week after reporting $37 million leading revenues compared to $60 million last quarter. QTS Realty (QTS) gained 5.0% this week after reporting $21 million in leasing revenues compared to $22 million last quarter. Finally, Equinix (EQIX) does not provide leasing figures but did reaffirm prior full-year AFFO per share guidance yesterday afternoon and gained 4.4% on the week.
Cell Towers: The two largest cell tower REITs reported results this week and results were lukewarm for the second-best performing REIT sector of 2020. American Tower (AMT) finished lower by 2.0% this week after lowering the midpoint of its 2020 outlook for property revenue, net income and EBITDA. Crown Castle (CCI) finished flat this week after maintaining its full-year 2020 outlook, with the exception of a reduction to net income. The third cell tower REIT, SBA Communications (SBAC) will report results next Thursday. The cellular industry has seen plenty of fireworks over the last two years, underscored by T-Mobile’s (TMUS) now-completed acquisition of Sprint and the emergence of DISH Network (DISH) as a fourth competitor.
Casinos: Gaming & Leisure Properties (GLPI) surged 7.5% this week after beating Q2 FFO estimates and announcing that it collected approximately 99% of its contractual rents this year through July. VICI Properties (VICI) finished higher by 3.2% this week after it announced that it collected 100% of its rent in 2Q and July. MGM Growth Properties (MGP) reports next Tuesday. Casino REITs may not be the gamble that may appear on the surface, as rent collection has been spotless since the start of the pandemic and dividends have been essentially untouched despite the temporary closure of many gaming properties across the country. Critically, casino REITs operate under a triple-net lease structure, leaving most of the financial and operational risk to their tenants. However, these long-term leases are only as safe as the tenants’ ability to pay, some of which have been stretched to the brink.
Net Lease: W.P. Carey (WPC) surged 7.6% this week after announcing a collection rate of 96% for 2020 second-quarter rent due and 98% for July rent due. Four Corners (FCPT) also surged 10.3% after announcing collection of 92% of Q2 rents and 99% of rents for July. Spirit Realty (SRC) gained 5.6% this week after announcing collection of 75% of Q2 base rent and 84.8% of July base rent. The “big three” net lease REITs – Realty Income (O), National Retail (NNN), and STORE Capital (STOR) all report results next week. Net lease REITs had defied the “retail apocalypse” headwinds over the past half-decade by investing in experienced-based retail categories, but these “un-Amazonable” categories, including restaurants, fitness centers, and movie theaters, have become liabilities amid the “social distancing” era.
Apartments: Five of the seven largest apartment REITs reported results this week, reflecting rental conditions that remain solid in the sunbelt regions but soft in the Northeast and California. Sunbelt-focused Mid-America (MAA) surged 5.5% this week after reporting strong results, noting a 2.0% rise in same-store NOI and a 1.8% rise in effective rental rates. Fellow sunbelt-focused REIT Independence Realty (IRT) jumped 6.1% this week after reporting similarly strong leasing spreads and NOI growth. Costal-focused AvalonBay (AVB) and Equity Residential (EQR) finished higher by 1.9% and lower by 1.9%, respectively, after reporting flat-to-negative leasing spreads and noting weakness in the New York and Southern California markets.
Healthcare: Medical Properties Trust (MPW) gained 2.3% this week after the pure-play hospital owner raised full-year FFO guidance and commented that it expects 2020 cash rent and interest collections to total 98%. LTC Properties (LTC) finished lower by 2.9% this week after the senior housing and skilled nursing operator announced a sharp dip in net income due to several factors including missed rents and the sale of several properties. The effects of the coronavirus pandemic will be felt in differing intensities across each healthcare sub-sector. Senior housing – both independent and assisted living facilities – are facing record-low occupancy rates due to plunging move-in rates and an uptick in move-out rates. For skilled nursing REITs, the pandemic further exasperates issues with their troubled operators, but these operators have also been significant beneficiaries of government relief.
Industrial: Most of the industrial REIT sector has now reported, and results have been very strong as the sector hasn’t skipped a beat since the outset of the pandemic. Duke Realty (DRE) surged 7.9% this week after raising full-year guidance while reporting a 26.6% jump in net effective rents (10.7% on a cash basis). EastGroup Properties (EGP) jumped 9.1% this week after it announced that it collected roughly 98% of Q2 rents and recorded same-store NOI growth of 4.1% while also raising full-year guidance. STAG Industrial (STAG) jumped 5.2% after announcing that it collected 98% of Q2 rents and reported same-store NOI growth of 2.1%. Last week, Prologis (PLD) and First Industrial (FR) each raised full-year guidance as well.
Timber: Driven by the sharp rebound in housing market activity over the last quarter, timber REITs have been the best-performing equity REIT sector. Weyerhaeuser (WY) surged 6.5% this week after announcing earnings that beat analyst estimates this week and raising full-year guidance. PotlatchDeltic Corporation (PCH) gained 0.8% this week after also reporting earnings above consensus estimates and commented that “lumber markets are in the midst of a historic run.” Lumber prices have roughly doubled from their lows in early April, driving an improvement in revenues and margins at the largest timberland owners and lumber producers.
Next week, we’ll hear reports from nearly 100 equity and mortgage REITs highlighted by shopping center REITs Regency Centers (REG) and Federal Realty (NYSE:FRT), healthcare REITs Welltower (WELL), Healthpeak (PEAK), and Omega Healthcare (OHI), storage REITs Public Storage (PSA) and CubeSmart (CUBE), and single-family rental REIT Invitation Homes (INVH). Below we note the earnings that we’re watching across the REIT sector.
Mortgage REITs finished mostly higher this week as residential mREITs gained by 0.5% while commercial mREITs finished higher by 4.0%. Arbor Realty (ABR) jumped 15.0% this week after raising its dividend by 3%. Blackstone Mortgage (BXMT) climbed 6.3% after reporting that its BV per share slipped 2% during the quarter but collected 100% of borrower interest. Ladder Capital (LADR) gained 5.9% after reporting a BV increase of 1%. On the residential side, Redwood Trust (RWT) jumped 5.3% after announcing that its BV per share surged by 29% in Q2. Annaly Capital (NLY) gained 3.6% after reporting that its BV per share rose 12% in Q2, above estimates, while AGNC (AGNC) finished higher by 0.6% after reporting that tangible book value rose by 9.5% last quarter and Capstead Mortgage (CMO) gained 4.8% after reporting that its BV per share increased 11.9%.
Earlier this week, we published our mREIT Earnings Preview – Mortgage REITs: Back From the Brink. Despite a 70% rally from the lows in early-April, mREITs remain lower by more than 40% this year and trade at an estimated 20% discount to book value. Few asset classes have been slammed harder by the pandemic than mortgage REITs, which have seen a “dividend cut bloodbath” with 33 of 42 mREITs suspending or reducing their dividends. We discussed the three trends that we’re watching this earnings season: 1) Dividend Cuts and Resumptions; 2) Updated Book Value Estimates, and 3) Macroeconomic Commentary on the Mortgage and Housing Markets.
Last month, we published REIT Preferreds: Higher-Yield Without Excess Risk where we introduced our all-new REIT Preferred and Bond Tracker and discussed the investment characteristics of these “hybrid” securities. The REIT Preferred ETF (PFFR) ended the week higher by 1.2%. Among REITs that offer preferred shares, the performance of these securities has been an average of 17.8% higher in 2020 than their common shares. Preferred stocks generally offer more downside protection, but in exchange, these securities offer relatively limited upside potential outside of the limited number of “participating” preferred offerings that can be converted into common shares.
2020 Performance Check-Up
For the year, Equity REITs are now lower by roughly 16.4% and Mortgage REITs are off by 41.6% compared with the 1.4% gain on the S&P 500 and the 7.3% decline on the Dow Jones Industrial Average (DIA). This week, single-family rentals joined the data center, cell tower, and industrial REIT sectors as the lone property sectors in positive territory for the year. Astoundingly, the gap between the best-performing and worst-performing REIT sector in 2020 is a whopping 88%. At 0.54%, the 10-Year Treasury Yield (IEF) has retreated by 138 basis points since the start of the year and is roughly 270 basis points below recent peak levels of 3.25% in late 2018.
Next Week’s Economic Calendar
In addition to a frenetic slate of REIT earnings reports, employment data highlights next week’s busy economic calendar, headlined by ADP data on Wednesday, jobless claims on Thursday, and the BLS nonfarm payrolls report on Friday. Economists are looking for employment gains of roughly 1.3 million in July following June’s record-shattering employment gain of 4.8 million, but some high-frequency data suggests that a negative print isn’t entirely off the table following the “reopening reversal” in several states. We’ll also see Construction Spending data on Monday and a flurry of PMI data.
If you enjoyed this report, be sure to “Follow” our page to stay up to date on the latest developments in the housing and commercial real estate sectors. For an in-depth analysis of all real estate sectors, be sure to check out all of our quarterly reports: Apartments, Homebuilders, Manufactured Housing, Student Housing, Single-Family Rentals, Cell Towers, Casinos, Industrial, Data Center, Malls, Healthcare, Net Lease, Shopping Centers, Hotels, Billboards, Office, Storage, Timber, Prisons, Real Estate Crowdfunding, and REIT Preferreds.
Disclosure: Hoya Capital Real Estate advises an Exchange-Traded Fund listed on the NYSE. In addition to any long positions listed below, Hoya Capital is long all components in the Hoya Capital Housing 100 Index. Index definitions and a complete list of holdings are available on our website.
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Disclosure: I am/we are long HOMZ, AMT, ARE, AVB, BXMT, DRE, DLR, EFG, EQIX, FB, FR, MAR, MGP, NLY, NHI, NNN, PLD, REG, ROIC, SBRA, SPG, SRC, STOR, STWD, PSA, EXR, AMH, CUBE, ELS, MAA, UDR, SUI, CPT, NVR, EQR, INVH, ESS, PEAK, LEN, DHI, HST, AIV, MDC, ACC, PHM, TPH, MTH, WELL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: It is not possible to invest directly in an index. Index performance cited in this commentary does not reflect the performance of any fund or other account managed or serviced by Hoya Capital Real Estate. Data quoted represents past performance, which is no guarantee of future results. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy.
Originally published on Seeking Alpha