Article Excerpt:
TWST: REITs have outperformed the market for the seventh year in a row. Most people didn't expect that to happen. What's going on here?Mr. AuBuchon: I think it would be fair to say that we didn't expect it either. We have been optimistically cautious over the last several years. Most of our concern was really related to the fact that actual fundamentals for a number of the property types weren't as strong as the REIT total returns led you to believe. So we have been cautiously optimistic over the last several years, and I think what's really driving the returns in this sector is that at the end of the day, on a risk-adjusted basis, REITs have generated some pretty attractive cash flow relative to what you are seeing in a lot of other parts of the world, including the equity and the debt capital markets. When they bottomed back in the 1998 to 1999 time frame, I think the average REIT yield was somewhere in the 7% to 8% range, which was pretty attractive, considering that the economy was starting to fall apart and dip into recessions, slower growth, etc. Now, as real estate fundamentals have caught up and enjoyed a return to prosperity that has come along with the improvement in the economy over that time frame, you are really seeing yields at the lower end of historical ranges and valuations exceeding all historical metrics. What's continuing to drive that, number one, is that REITs have been winners and the market likes winners, and I think the capital gravitates toward those sectors. Number two, it's a pretty small sector - at the end of the day, it has a $300 billion equity cap. Number three, the M&A activity that we have seen in the group over the last two years has produced the second leg of the outperformance over the last six to seven years. The first years were really driven by returns and dividend yields, because it was the opposite of growth, and growth was really damaged over the 2000 to 2003 time frame. Over the 2004 to 2006 time frame, M&A has taken up the slack, and the private capital that is focused on the group and real estate investment, in general, because of those relative risk-adjusted returns, has really pushed the REIT returns back into the areas that we have seen today. So for every one REIT that goes away because of an M&A or private takeout or a merger with a public company, there is one less company to invest in, in this sector. To the extent that there is REIT-dedicated money, you are dumping the capital back into a sector that has one less company. It's kind of a self-fulfilling prophecy. Those are the reasons why the REITs have outperformed to date.
Tickers included in this excerpt: KIM, SPG
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