While crystal balls and tarot cards certainly have their uses, here at Registered Rep. we've called upon a cadre of real estate investment trust (REIT) experts to share their predictions for various sectors in 2012. We've identified five things that investors should expect for the New Year.
REIT Prediction #1 - Increasing dividends across all REIT sectors
Since REITs are required to pay 90 percent of their taxable income to shareholders in the form of dividends, the decision to slash or suspend dividends is a sign that a REIT's core business is suffering. A dividend increase or reinstatement, however, can be viewed as a signal of strength.
At the height of the credit crisis and global recession, 30 listed REITs reduced their dividends, according to the National Association of REITs (NAREIT). Another 18 suspended dividends entirely. It's worth noting, however, that some of the cuts were defensive moves to preserve capital rather than indicators of true distress.
In 2010, a few select REITs increased their dividends, and in total, REITs paid out approximately $18 billion in dividends. Last year (2011), most REITs felt confident enough to expand their dividend payouts. As of Nov. 7, 41 U.S.-based REITs had increased their dividends in 2011, according to SNL Financial. The company's data show that the healthcare sector led the pack with eight dividend increases, while the multifamily sector followed closely with seven increases. Shopping center and hotel REITs had six dividend increases each.
“We expect REITs to continue to increase their dividends in 2012,” says Jason Lail with SNL Financial, adding that the average dividend payout ratio for traded REITs is about 70 percent of AFFO (adjusted funds from operations), which offers enough “wiggle room” for dividends to continue to grow.
REIT Prediction #2 - More opportunities to invest in unsecured debt/corporate bonds
Both traded and non-traded REITs are pursuing investment grade credit ratings so they can issue unsecured debt. And, as more REITs obtain investment grade credit ratings, investors will be able to invest in REITs beyond equity: They'll be able to buy corporate debt.
In October 2011, for example, American Campus Communities (Ticker: ACC), the nation's largest student housing REIT, was assigned a Baa3 Issuer Rating by Moody's Investors Service, making it the first company in the student housing industry to achieve an investment grade rating.
Analysts agree that access to the unsecured debt has the potential to differentiate a REIT's financial performance. With the ability to issue unsecured debt, a REIT's balance sheet is more flexible and its cost of capital is usually lower.
Unsecured debt is a popular form of financing for REITs. In 2011, for example, REITs issued nearly $12.5 billion in unsecured debt, according to NAREIT.
Lail expects more REITs to pursue and achieve investment grade status in 2012. The process is lengthy, however, with ratings agencies such as Moody's and Standard & Poors increasingly focused on a REIT's existing leverage including mortgage debt and overall debt maturity schedule.
REIT Prediction #3 - Few, if any IPOs
Most REIT experts expected 2011 to be a banner year for REIT IPOs, but it turned out to be a big disappointment. Likewise, 2012 looks like it will be a barren year for REIT IPOs, which means that REIT investors looking to increase their allocations will have to focus their energies on existing REITs.
While experts anticipated more than $6 billion in REIT IPOs in 2011, only eight companies actually made it through the public issuance process, raising just $2.3 billion. To put that activity in context, in 2010, there were 10 REIT IPOs that raised just a little less than $2 billion and there were eight REIT IPOs in 2009 that raised roughly $2.6 billion.
“The window for IPOs closed very quickly,” says Alexander Goldfarb, an analyst with Sandler O'Neill + Partners. “It will open again, of course, but for a real estate company to choose public over private, it has to see a premium in the public markets for its assets.”
REITs investors have been disappointed by the performance of REITs that went public in 2010 and 2011. Research from SNL Financial found that only one of the IPOs in 2010 or 2011 had managed to beat the SNL U.S. REIT Equity Index on a total return basis.
Summit Hotel Properties, which boasts the lowest IPO price of the period, is the only company in consideration that beat the index. As of Dec. 2, Summit had a total return of 0.30 percent since its February IPO and bested the US REIT Equity Index by 2.93 percent over the same period. Every other REIT that had an IPO in 2010 and 2011 has lagged behind the index since floating shares to the public.
REIT Prediction #4 - Limited development except in multifamily
With lenders still hesitant to fund the construction of commercial real estate projects, it makes sense that development activity across most property sectors is extremely limited. That lack of new inventory is a double-edged sword for REITs.
With limited supply, REITs might be in a more competitive position to push rental rates and improve their operating income. REITs that rely on development to juice their returns and provide external growth will be forced to look to other growth vehicles in 2012 as ongoing economic weakness continues to discourage new development, particularly in the office and retail sectors.
Apartment REITs, in particular, are experiencing increasing demand for units in an environment of limited new supply. Last year, the apartment sector set a new record low for annual completions with only 38,000 new units coming online across the nation. To put that in perspective, in 2001, more than 166,100 new apartment units were completed in the U.S., according to real estate research firm Reis Inc.
Similarly, office and retail development activity is at its lowest level in 10 years, with only 15 million square feet of office space completed in 2011, according to Reis. Retail property completions totaled roughly 5.3 million square feet — marginally higher than 2010's record low levels, but not much higher.
REIT Prediction #5 - Emerging opportunities to invest in infrastructure REITs
Infrastructure — it's a long word that's used to describe a lot of things including roads, cell towers and railroads.
Across the globe, placing infrastructure assets in a REIT structure is fairly commonplace; in the U.S., however, infrastructure REITs are new and novel. These REITs, known as I-REITs, are just now available to retail investors. As of late 2011, there were two new players in the I-REIT sector: American Tower (Ticker: AMT) and Power REIT (Ticker: PW).
In November 2011, American Tower, which currently owns and operates approximately 40,000 communications sites across the globe, received approval from its shareholders to merge with American Tower REIT Inc., a wholly owned subsidiary of American Tower effective Jan. 1, 2012.
Power REIT is the new incarnation of Pittsburgh & West Virginia Railroad, a company established in the mid-1960s to acquire property (land and rail) used by Norfolk Southern Corp. The new REIT has a market cap of less than $20 million.
“Infrastructure REITs are a burgeoning part of the REIT industry, and I think we're going to see more infrastructure companies shift to a REIT structure and more companies go public as I-REITs,” Lail says.