Kilroy Realty (KRC) A Favorite With Prudential Managing Director; Discover His Top Stock Picks
August 31, 2010 - The Wall Street Transcript has just published REITs Report offering a timely review of the REIT sector. This Special Report contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. Please find an excerpt below.
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Marc Halle is a Managing Director for Prudential Real Estate Investors, where he is the Senior Portfolio Manager for all global real estate securities funds and investments, including the Prudential Global Real Estate Fund (PURAX). Mr. Halle is also a Portfolio Manager for PREI's real estate investment products for defined contribution plans and a member of PREI's U.S. management committee. He has more than 25 years of experience in real estate capital markets, securities, development, acquisition and finance. He holds an MBA in finance from New York University and a B.S., magna cum laude, from Tufts University College of Engineering.
TWST: Given the improving fundamentals you mentioned, are there particular property types or geographic markets that are most favorable right now?
Mr. Halle: When we look at our portfolio, we build our portfolio almost like a bond portfolio, and you can look at the "tenor" of the portfolio in terms of the lease duration. As the economy recovers, what you are first going to see is that the asset classes with the shortest lease duration will do the best. You will see hotels, with a lease duration of one night, can continually adjust their rates upward. Lodging is very highly geared to the economic recovery, so hotels have been doing well. Multifamily apartments also have been doing very well. We are seeing great household formations, pent-up demand, less interest in homeownership despite the historically low cost of homeownership. Typically in U.S. multifamily, about two-thirds of your portfolio turns over every year on average. As the market's turning positive, you can adjust the rents in your portfolio pretty quickly. We are not the only ones with a crystal ball; a lot of investors understand these dynamics, so the values of these stocks have done pretty well. We still think there is some more room to run in terms of the rental rate growth.
Another sector we like is self storage, due to the short-duration nature of their leases. Public Storage (PSA) would be a great example of a company that has excellent growth prospects and the ability to capitalize on the changing dynamics of the economy. However, lease duration is not the only factor; remember supply and demand. We think there are also some very good opportunities in some of the office stocks where the earnings growth will be a little later in the cycle. In terms of markets, we tend to focus on the major metropolitan areas like New York, Washington, Boston, San Francisco, L.A., Chicago or Miami. You have to be discerning when you talk about these cities because each of those cities has distinct submarkets. For example, when you look at New York, we know that there is significant new construction coming in the Wall Street submarket, but I can't see any advertising agency who is sitting in Midtown Manhattan moving their space downtown to Wall Street. So even though it's in the same city, you have to dig deep and investigate the submarkets and see what's coming up, see what's driving the demand and what's driving the supply by specific location.
Vornado Realty Trust (VNO) is a perfect example. They own a lot of real estate, especially in New York and Washington. However, these are not generic assets in generic locations. They own some of the best buildings, in the best locations, with very high-quality tenants in those markets. Despite the construction downtown in New York, Vornado could still see rental growth in their New York portfolio of 30% to 40% over the next couple of years due to improving fundamentals and limited new supply in their submarkets. Despite flat market rate growth in the D.C. market for the next couple of years, VNO's Washington portfolio should be able to generate 20% rent growth in 2012 to 2015.We also like Kilroy Realty (KRC). Located in Southern California, they are in L.A., Orange County and San Diego. The company has assembled a high-quality office and industrial portfolio in some very good submarkets. The company has also demonstrated that they are very good at recycling capital - so good markets, good company, good assets.
TWST: As far as U.S. REITs go, what are your favorite names right now?
Mr. Halle: Right now I really like Kilroy, which I think is, as I mentioned, a good office/industrial Southern California company. The market is great, supply-demand fundamentals are great. I think they're priced well. When I mentioned that investors have stepped up that risk spectrum or stepped up the curve, they're buying cash flow and they're buying multiple, they're buying income. What's not selling today is vacancy. Cash flow is king. In the private markets, there are very few sellers of properties that are underleased. Property owners can see the recovery in the near term and are unwilling to forgo the significant upside in their valuations. When you look at the public REITs today, you can buy that vacancy very cheaply because the markets are not giving a high value to it. In Kilroy we think that the markets are mispricing the vacancy. The same dynamic exists with ProLogis (PLD).
ProLogis is a leading global provider of industrial distribution facilities primarily located in the U.S. and Europe. The company has a tremendous land bank and a good pipeline of properties in development and lease up. Right now we believe that the markets are mispricing that vacancy in the portfolio since it's non-income producing. However, over the next few years, the company should experience excellent gains from the value creation opportunities imbedded in this pipeline. As mentioned earlier, Public Storage is also very attractive based on their high current income. They don't have a lot of vacancy, but they have very good current dynamics, short lease duration and a unique ability to grow through acquisition. It's a $20 billion company with about 7% debt, very low gearing on the company. PSA owns about 2,000 properties across the U.S. in a market we estimate to be about 45,000 self-storage properties.
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