Real Estate Weekly Outlook
The “tech wreck” dragged on as U.S. equity markets declined for the second-straight week, pressured by the previously-high-flying technology sector after Congress failed to reach a compromise on a renewed coronavirus relief bill. The choppiness was further fueled by a potential setback in the vaccine race as AstraZeneca (AZN) temporarily paused its Phase 3 clinical trials while investor attention turned to concerning coronavirus trends outside the United States as the “center of the pandemic” returns to Western Europe amid a reacceleration in case counts in France, U.K., Spain, and Italy, while case counts continue to post encouraging declines in the United States.
After snapping its six-week winning streak last week with declines of 2.3%, the S&P 500 ETF (SPY) dipped another 2.5% this week. The seemingly unstoppable rally from the “stay-at-home winners” has come to a screeching halt over the last two weeks as the Nasdaq 100 ETF (QQQ) dipped into “correction territory” with declines of nearly 5% this week. It was an especially choppy week in the real estate sector as the relatively mundane 2.2% declines from the Equity REIT ETF (VNQ) masked a sharp dip from retail REITs amid a busy week of real estate newsflow including several dividend increases and rent collection updates. The Mortgage REIT ETF (REM) meanwhile finished lower by 0.9% this week after last week’s 2.6% decline.
Following a similar pattern as last week, the domestic-focused and economically-sensitive sectors were again among the better-performers this week amid the technology-led sell-off. Even so, 10 of the 11 GICS equity sectors were lower on the week with the Energy (XLE), Technology (XLK), and Communications (XLC) sectors dragging on the downside. Homebuilders and the broader Hoya Capital Housing Index were a bright spot, however, as the U.S. housing industry continues to prove to be a source of resilient strength amid the perpetual uncertainty over the past six months.
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.
As noted, the red-hot housing market is showing no signs of cooling and data this week provided further evidence that the sector will continue to lead the post-pandemic recovery. Perhaps the “sharpest” of all V-shaped economic datasets, the Mortgage Bankers Association reported this week that mortgage applications to purchase a single-family home is now higher by 40% from last year, continuing a stunning rebound since dipping by nearly that same magnitude on a year-over-year basis in early April at the outset of the pandemic. The rebound in housing market activity – a key driver of the recent economic rebound – has been aided by longer-term macroeconomic trends of favorable millennial-led demographics, historically low housing supply, and record-low mortgage rates, which declined to fresh record-lows this week at 2.86% in the Freddie Mac Mortgage Market Survey.
The effect of this red-hot housing demand is perhaps most apparent in the market for wood products. Random-Length Lumber futures (LB1:COM) soared to all-time highs this week after a short-lived sell-off last week with front-month contracts jumping to $939 per 1,000 board ft., the highest on record. Resurgent demand from single-family homebuilders caught many lumber producers – including lumber REITs like Weyerhaeuser (WY), PotlatchDeltic (PCH), and Rayonier (RYN) by surprise – as production was slowed or halted during the peak of the pandemic in April and May, leading to severe supply shortages while production lines are restarted. Raging wildfires on the West Coast have also added to upward pressure on lumber prices.
On the topic of rising prices, inflation metrics came in hotter than expected for the second-straight month in August, bouncing back after dipping to multi-decade lows during the “shutdown months” of April through June. Core inflation recorded its largest two-month gain since 1991 with a rise of 0.4%, pushing the year-over-year rate back up to 1.71% from its multi-decade low of 1.22% in June. Core Producer Prices recorded a similarly-hot 0.4% rise from last month, which pushed the year-over-year rate in Core PPI to 0.59% from its June low of 0.08%. While we don’t believe that inflation is a near-term concern yet, the fiscal and monetary policy environment may end the “lower for longer” economic regime that was perhaps the defining economic trend of the 2010s.
It shaped up to be a very busy week of REIT newsflow, headlined by a flurry of rent collection updates, several dividend increases, and some notable M&A news in the mall and self-storage REIT sectors. Starting on the M&A front, Simon Property (SPG) and Brookfield Property (BPY) have partnered on an $800m deal to save J.C. Penney from bankruptcy, a move that would save 70,000 jobs and 650 stores, according to comments during a court hearing by law firm Kirkland & Ellis. This deal represents a continuation of Simon Property’s shopping spree as the largest mall owner in the U.S. has made investments into a number of distressed retail brands over the last year including Brooks Brothers, Lucky Brand, Forever 21. We analyzed the recent wave of M&A activity in Mall REITs: Shop Till You Drop.
There was some additional M&A news this week with reports that Brookfield Asset Management (BAM) is seeking a potential sale of its Simply Self Storage unit. Moving on to dividend news, an encouraging sign for the REIT sector at large, Casino REIT VICI Properties (VICI) became the 26th equity REIT to raise its dividend in 2020 above prior-year levels by announcing an 11% increase in its quarterly payout to $0.33 per share. After a wave of dividend cuts early on in the pandemic, since the start of July, we’ve seen more dividend increases in the REIT sector than dividend decreases, but the vast majority of the increases in this year have come from the “essential” property sectors – housing, industrial, and technology REITs.
Nevertheless, we’ve tracked 64 equity REITs in our universe of 170 REITs to reduce or suspend their dividend since the start of the pandemic. While not “true” dividend increases, shopping center REIT Retail Properties of America (RPAI) announced that it resumed its previously-suspended dividend at $0.05 per share, below the pre-pandemic rate of $0.17 per share. Fellow shopping center REIT Urstadt Biddle (UBA) announced earnings results this week, while also increasing its previously-reduced dividend to $0.14 per share, below the $0.28 pre-pandemic rate. UBA was among the best-performing shopping center REITs this week after reporting earnings.
On that point, we published High-Yield ETFs And CEFs: No Free Lunch. “Give me yield or give me death.” In a world of perpetually low interest rates, investors have piled into yield-oriented equity sectors to quench their voracious appetite for income. High-yield real estate ETFs and CEFs have been popular options, which typically offer juicy dividend yields of 5-10% compared to their broad-based real estate ETF counterparts yielding below 4%. On Wall Street, however, there’s no free lunch and many of these high-yield fund REITs been slammed by the coronavirus pandemic, bearing the brunt of the wave of dividend cuts that has bedeviled the sector. While roughly a third of the equity REIT sector cut or reduced dividends in 2020, many of these high-yield ETFs and CEF saw 60-85% of their constituents cut dividends this year. Below, we outline the primary differences between these three fund structures.
Landlords can’t pay dividends if they aren’t collecting the rent, and dividend-paying capacity will continue to be dependent on rent collection, which has generally improved sequentially in each month since April across the REIT sector. The rate of the improvement in the shopping center sector may be slower than investors anticipated, however, as the sector was slammed this week after a flurry of rent collection updates. RPT Realty (RPT) announced that it collected 86% of rents in August, up from 79% in July and 70% in Q2 while Retail Properties of America (RPAI) collected 77% of August rent and increased its collection rate to 76% in July and Acadia Realty (AKR) announced that it has collected 81% of its combined July and August.
Meanwhile, net lease REIT Alpine Income (PINE) announced that it collected 100% rents for September, but struggling EPR Properties (EPR) reported that it collected just 30% of July rent and 35% of August rent. Earlier this week, we published Net Lease REITs: Reopening Revival. Net Lease REITs were punished by the coronavirus-related economic shutdowns, but have rebounded over the last several months as critical shutdown-sensitive tenants reopen their doors and as rent collection improves. As a whole, rent collection has improved sequentially from a low of 65% in the initial April reporting towards 90% in July as regions continue to lift shutdown orders. While several “experience-heavy” REITs continue to have their backs against the walls, the sector as a whole remains on a relatively firm footing as four net lease REITs have actually increased their dividend in 2020.
Finally, on the residential-side, single-family rental REIT Front Yard Residential (RESI) reported that it collected 99% its average rent in August and achieved strong blended rent growth of 4.6% for August compared to 4.7% for July and 4.1% for Q2 while apartment REIT Bluerock Residential (BRG) reported collection of 97% of August rents. Meanwhile, apartment REIT AvalonBay Communities (AVB), which owns a heavily-urban portfolio, announced that it collected 95% of its average rents in September, but noted continued pressure on rents and occupancy. We discussed trends in the multifamily market in Apartment REITs: Urban Exodus. Earlier in the week, the National Multifamily Housing Council (NMHC) noted that its Rent Tracker showed that rent collection in September is running 4.8 percentage points below prior-year levels, an uptick from the 1-3 percentage point drag in April through August. While the timing of the Labor Day holiday may have impacted rent collection in recent data, we may be seeing some effects from the termination of several coronavirus stimulus measures in July.
Mortgage REITs finished lower for the second-straight week as residential mREITs declined 1.7% while commercial mREITs finished lower by 2.1%. We heard a couple of book value updates this week and a handful of dividend declarations, all of which announced payouts in-line with the previous quarter. Residential mREIT AGNC Investment (AGNC) reported that its estimated tangible book value per share rose 6.1% in August to $15.74 per share and up 15% since the end of Q1. Ellington Financial (EFC) announced that its estimated book value as of August 31 rose to $16.13 per share, up 2.3% from the end of Q2. Annaly Capital (NLY), Broadmark Realty (BRMK), Capstead Mortgage (CMO), and Ladder Capital (LADR) all declared in line with prior rates this week.
We recently published our Mortgage REIT Earnings Recap. After 31 of 42 mREITs cut or suspended dividends from March through June, we haven’t seen any additional cuts since the start of July. However, only one mREIT, Arbor Realty (ABR), has raised distributions to rates above last year’s levels. Several residential mREITs have resumed or raised dividends after initially cutting including MFA Financial (MFA), Ellington Financial (EARN), Great Ajax (AJX), ARMOUR Residential (ARR), New Residential (NRZ), PennyMac Mortgage (PMT), and Two Harbors (TWO), but none of these distributions are back above pre-pandemic levels. We see the current distributions rates as relatively attractive with an average dividend yield of 8.1% for residential mREITs and 7.9% for commercial mREITs.
Last quarter, we published REIT Preferreds: Higher-Yield Without Excess Risk. The REIT Preferred ETF (PFFR) ended the week higher by 0.3%. UMH Properties (UMH) announced this week that it will redeem all of its Series B (UMH.PB) preferred stock on its first call date October 20, 2020. Digital Realty (DLR.PK) called its Series I (DLR.PI) this week, which was redeemable at the issuer’s option on or after 8/24/2020. Ashford Hospitality (AHT) commenced exchange offers for all of its outstanding preferred issues (AHT.PD, AHT.PF, AHT.PG, AHT.PH, AHT.PI). Among REITs that offer preferred shares, the performance of these securities has been an average of 20.9% 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 17.7% and Mortgage REITs are off by 41.3% compared with the 3.8% gain on the S&P 500 and the 2.8% decline on the Dow Jones Industrial Average. Four of the eighteen REIT sectors are in positive territory for the year while on the residential side, five of the eight U.S. housing industry sectors in the Hoya Capital Housing Index are in positive territory for the year. The gap between the best-performing REIT sector – data centers – and worst-performing REIT sector – regional malls – remains a whopping 71% in 2020. At 0.67%, the 10-year Treasury Yield (IEF) has retreated by 125 basis points since the start of the year and is roughly 255 basis points below recent peak levels of 3.25% in late 2018.
Next Week’s Economic Calendar
We have a busy slate of economic and housing data in the week ahead. On Wednesday, we’ll see Homebuilder Sentiment for September, which unexpectedly surged last month to record-high levels. Also on Wednesday, we’ll see Retail Sales data for August, which had completed the V-shaped recovery last month as retail spending exceeded pre-pandemic levels. On Thursday, we’ll see Housing Starts and Building Permits for August. Housing Starts jumped 22.6% last month to a seasonally adjusted annual rate of 1.50 million units while Building Permits rose 18.8% to a rate of 1.50 million units. As usual, we’ll also be watching the weekly Mortgage data on Wednesday and Jobless Claims data on Thursday for signs that the housing and employment recovery can continue into early Autumn.
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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.
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