Real Estate Investment Trust Valuations—Bricks in the Wall of Worry?

REITs | Bricks in the Wall of Worry? | Sheaff Brock

Real Estate Investment Trust Valuations—Bricks in the Wall of Worry?

The “Wall of Worry,” an informal expression used in financial jargon since the 1950s, refers to a market uptrend that occurs when there is significant uncertainly about stock price sustainability. But what about REITS? Are these stock/real estate hybrids bricks in the “Wall” as well?

“Long before investors fell in love with Facebook and or even the hot stocks of past generations such as utilities and railroads, real estate inspired dreams of wealth,” writes John Coumarianos. “Some financial advisers and pundits helped fuel the love affair, suggesting that investors could reduce volatility and boost returns by adding real-estate investment trusts, or REITs, to portfolios in an amount exceeding their representation in broad market indexes,” he adds.

Real Estate Investment Trusts offer both conservative and aggressive investors the potential for income and capital appreciation, in addition to providing portfolio diversification through the addition of real estate, Sheaff Brock Senior Portfolio Manager JR Humphreys explains. With the stock market’s newest “wall of worry” built on inflation and rate fears, it’s important to note that REIT returns have been positive during 87% of the periods of rising interest rates between 1992 and 2017, as shown in the chart below.

REIT Performance During Sustained Periods of Rising Interest Rates

Chart Showing REIT Performance During Sustained Periods of Rising Interest Rates | Sheaff Brock

Significantly, while REITS trade on major exchanges like stocks and bonds, Real Estate Investment Trusts have outperformed both in terms of income, as is shown in the chart below on comparative yields. And, while fixed income investments generally tend to be hurt by rising interest rates, the U.S. REIT Index has remained strong during the first half of this year. Real estate owners can increase rents, and due to the fact that the structure of REITS require them to pay out 90% of income to investors, in periods of economic growth, REITS have historically increased payouts to investors.

Comparative Yields as of 05/24/18*

Comparative Yields of S&P 500, U.S. Bonds, and REITs as of 05/24/18*

In the Sheaff Brock Real Estate Income & Growth portfolio, therefore, a “top down” approach is used, Humphreys emphasizes. Macroeconomic research is done and sector trends are first analyzed, and only then are individual Real Estate Investment Trusts chosen for the portfolio. Examples include:

  • Retailers are being hurt by e-commerce, negatively affecting brick-and-mortar retail space, and so Sheaff Brock managers have underweighted shopping mall properties. At the same time, server farms (housing for the “cloud technology” that supports e-commerce) and warehouse buildings for inventory storage and fulfillment continue to increase in value.
  • Healthcare facilities are increasingly in demand, and REITS owning hospitals, medical centers, nursing facilities, and retirement homes are therefore weighted in the Sheaff Brock portfolio.

Based on history, Humphreys opines, REIT valuations today look especially promising in terms of both rising income and price appreciation. So, while there are certainly investor concerns making up the “Wall of Worry” right now, the effects of rising interest rates on REIT valuations needn’t be one of the bricks in that wall.

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