REIT investors had a rough 2023, experiencing underperformance compared to other market sectors.
However, hope is on the horizon for 2024, according to Seeking Alpha analyst and Investing Group leader Brad Thomas.
Today, most REITs are set up for potential business growth, increased earnings, and dividends.
How should investors evaluate REITs in the upcoming year? Thomas believes investors need to carefully scrutinize each REIT sector for potential opportunities, with M&A activity potentially taking center stage in 2024.
Thomas also shares his broader market outlook, presenting an engaging Q&A piece on the Outlook:
Seeking Alpha: 2023 has been a challenging year for REITs. Interest rate increases, tightening in bank lending, and some defaults have hurt the asset class. What do you see for 2024?
Brad Thomas: Let’s first distinguish what REITs do and how they’re structured.
In my recent book, I noted, “all of the property in the world is worth an estimated $228 trillion. No other asset class comes even close to matching real estate in this regard, much less beating it.”
Yet global REITs represent around $3.2 trillion of that, which showcases the fragmented REIT landscape of today.
There are numerous REITs of various property sectors, each behaving differently, so the challenges faced in 2023 may vary in impact based on categories’ underlying fundamentals.
For instance, sectors like self-storage and hotels hold superior pricing power, enabling them to adjust rental rates swiftly in response to rising rates.
Conversely, net-lease or industrial REITs struggle to increase rents rapidly due to longer lease durations.
Despite the challenges faced in 2023 due to accelerated cost of capital, most REITs exhibited financial strength.
Leverage stayed below 40% since 2011 and stabilized in the low- to mid-30% range since 2016. These metrics, coupled with prudent financial strategies, positioned REIT balance sheets well for economic and capital market uncertainty.
In summary, REITs possess solid balance sheets, presenting them with ample room to manage leverage in higher interest rate environments, thanks to their adept handling of fixed-rate debt and locking in low interest rates for extended durations.
However, specific sectors demonstrate varied behaviors, with increasing loan defaults witnessed in the office and hotel sectors.
Despite this, most REITs are in favorable positions to seize opportunities in 2024, leveraging their scale and cost of capital advantages to bolster market share while maintaining earnings and dividends growth.
SA: Obviously not all REITs are equal, and certain types of REITs have performed better than others over the past year. Are certain REIT sectors more attractive than others as we head into the new year?
BT: That’s a great question.
To outperform the market, REIT investors must understand the property sectors they’re engaging with.
For example, I’ve steered clear of the residential mortgage REIT (mREIT) sector due to its high-risk attributes and substantial leverage, and instead focused on recommending and investing in property sectors that generate sustainable profit margins without high leverage dependence.
A balanced approach, where you weigh various property sectors based on your knowledge and risk tolerance, is essential for REIT investment success.
“Anchor” sectors include categories such as net-lease, industrials (logistics), data centers, cell towers, residential (apartments, manufactured housing, single-family rentals), and self-storage, while “buoy” sectors denote generally speculative, riskier ventures.
