Real estate investments trusts this year have been hammered by soaring interest rates, with the FTSE Nareit REIT index dropping 28% year to date.
That's worse than the S&P 500’s 25% slide. Rising rates hurt REITs because higher yields on bonds make them more attractive compared with REITs.
In addition, REITs borrow heavily to finance their real estate purchases, and higher rates increase their borrowing costs.
With the Federal Reserve determined to keep boosting rates, REITs likely have further to fall. But given how much they’ve already plummeted, now may be a good time to start nibbling. Here are some areas of the REIT market to consider.
Industrial REITs
Warehouses and distribution centers, which make up much of industrial-REIT holdings, are essential to e-commerce, of course.
And warehouse/distribution center owners went on a building spree earlier in the pandemic, when online buying surged. Now that online purchases have slowed, the warehouse sector has a glut of supply.
But internet buying has a long growth ramp ahead of it. E-commerce accounted for only 14.5% of retail sales in the second quarter. It’s very likely that number is headed way higher in coming years.
The biggest real estate REIT is Prologis (PLD).
“Prologis acquires, develops, owns, and operates industrial facilities that are strategically located in markets characterized by large population densities, growing consumption, and high barriers to entry, typically near large labor pools and extensive transportation infrastructure,” Morningstar analyst Suryansh Sharma wrote in a commentary.
In addition, “the firm's strategically located global land bank has the potential to support the lucrative development of approximately $26 billion of new industrial projects in upcoming years.”
Sharma puts fair value for the stock at $128. That's 22% above recent trades around $105.
Apartment REITs
The jump in housing prices over the past two years, along with the ascent of mortgage rates this year, has kept a lot of people in rental housing.
That demand for rentals obviously is good news for multifamily building owners. And with leases generally lasting just a year, landlords have plenty of pricing power in setting rents.
They’ve put that power to use in major markets. For example, the median rent for a one-bedroom apartment in Miami registered $2,590 as of Oct. 1, up 15% from a year earlier, according to Zumper, an apartment rental platform.
The biggest apartment REIT is Avalon Bay Communities (AVB).
“AvalonBay owns and operates high-quality multifamily buildings in urban and suburban coastal markets with demographics that allow the company to maintain high occupancies and drive strong rent growth,” such as in New York and California, Morningstar analyst Kevin Brown wrote in a commentary.
“These markets exhibit traits that create strong demand for apartments, like job growth, high cost of single-family housing … and attractive urban centers that draw younger people.”
Brown puts fair value for AvalonBay stock at $234, 25% above recent trades around $187.
Data-Center REITs
The explosive growth of cloud computing requires loads of computer abd telecommunications equipment, which is stored in data centers, and that growth is likely to continue.
The biggest data center REIT is Equinix (EQIX).
“Equinix is the largest provider of co-location data centers in the world, and it has developed network-dense locations in major cities that would be extremely difficult for competitors to replicate,” Morningstar analyst Matthew Dolgin wrote in a commentary.
“Telecom networks, cloud service providers, and other enterprises house their equipment and connect with each other at Equinix locations, and the presence of each attracts the others.
“We expect the importance of interconnection will continue to grow, and in our view, no company is better positioned to take advantage than Equinix.”
By far, “Equinix hosts the most cloud on-ramps of any data center provider in the world,” Dolgin said. “The growing reliance on hybrid cloud models, where businesses use a combination of their own hardware and cloud services, makes Equinix’s prospects bright.”
He puts fair value for the stock at $560, about 3% below recent trades near $577.
