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5 Soaring REIT Stocks That Might Lose Steam in 2018
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The rising interest-rate environment and an aging real estate cycle have taken a toll on the performance of real estate investment trusts (REIT) in 2017. In fact, since the beginning of the year through Dec 22, 2017, the industry has underperformed the broader market, as indicated by the FTSE/NAREIT All REITs Index’s total return of 7.7% over this time frame versus the S&P 500’s 22.2% gain.
In addition, the Fed’s recent decision to hike benchmark interest rates by a quarter point to a target range of 1.25-1.5% along with the tax reforms remain the biggest near-term challenges for REITs heading into 2018. Since REITs are heavily dependent on debt for acquisitions, development and redevelopment, higher interest rates raise the debt-financing costs and impact the profitability from such endeavors. Also, since REITs are seen as bond substitutes, amid a rising rate environment, dividend paid to investors might appear less attractive.
Furthermore, with corporate taxes being significantly slashed, the valuation premium, which REITs previously enjoyed on account of tax advantages, shrinks. Specifically, lower taxes are anticipated to accelerate earnings growth for the broader markets but the same might not be beneficial for REITs.
Also, the increased risk appetite of investors highlights that capital will not be flowing in this defensive sector. This, along with the skinny earnings growth rates for REITs, will likely put the sector at a comparative disadvantage in the year to come.
Although some stocks gained in 2017, on the back of robust fundamentals and/or improving outlook of individual asset categories, the above-mentioned factors are expected to impede growth in 2018.
In order to identify these stocks, we have created a three-faceted screen. First of all, we picked stocks that have gained more than 2% in the year-to-date (YTD) period.
Next, we considered companies with market capitalization of more than $1 billion.
Finally, we have picked stocks that carry a Zacks Rank #4 (Sell) or 5 (Strong Sell).
STORE Capital Corporation : This Maryland-based REIT is engaged in the acquisition, investment and management of Single Tenant Operational Real Estate (STORE properties). It acquires STORE properties from operators and renting it back to them, through a long-term lease. This enables operators to avoid incurring debt to finance the real estate.
Market Cap: $4.9 billion
Zacks Rank: 4
Price Performance (YTD): 4.2%.
With interest rates moving north, this REIT will be at risk in 2018, due to its significant exposure to long-term leased assets, which carry fixed rental rates. As a result, as interest rate flares up, the cost of borrowing will escalate accordingly, while revenue flows will not get adjusted quickly due to the fixed-rate nature, leading to an adverse impact on profitability. Amid these, the Zacks Consensus Estimate for funds from operations (FFO) per share for full-year 2018 has been revised downward by a cent in a month’s time.
Monmouth Real Estate Investment Corporation (MNR - Free Report) : This industrial REIT focuses on modern, single tenant, industrial buildings in prime locations, leased primarily to investment-grade tenants or their subsidiaries.
Market Cap: $1.3 billion
Zacks Rank: 4
Price Performance (YTD): 15.2%.
The e-commerce boom has helped the industrial real estate market to grow and consequently industrial REITs have been enjoying high absorption and occupancies. Nevertheless, with occupancies already at an all-time high, further growth in this measure is unlikely.
Moreover, the company has high exposure to debt with a debt-to-equity ratio higher than the industry’s average. The recent interest-rate hike is anticipated to have an adverse impact on this REIT. Also, the Zacks Consensus Estimate for FFO per share for fiscal2018 has moved down 2.2% over the past month.
Douglas Emmett (DEI - Free Report) : This REIT owns and operates Class A office properties as well as multi-family apartment units in the premier coastal submarkets of Los Angeles and Honolulu.
Market Cap: $8 billion
Zacks Rank: 4
Price Performance (YTD): 12.2%.
Oversupply remains the largest potential risk to this REIT.In fact, a whole lot of office and apartment properties are slated for delivery in the first half of 2018 as delayed construction activities have pushed their completion dates from 2017. This elevated supplyis likely to heighten competition, result in aggressive rental concessions and moderate pricing power. Moreover, office-using employment growth has moderated across various markets, limiting growth potential for 2018. Also, the Zacks Consensus Estimate for 2018 FFO per share has been revised downward by a cent in the last month.
W.P. Carey (WPC - Free Report) : This New York-based REIT is engaged in providing long-term sale-leaseback and build-to-suit financing to companies. The firm primarily invests in commercial properties that are generally triple-net leased to single corporate tenants, including office, warehouse, industrial, logistics, retail, hotel, R&D, and self-storage properties.
Market Cap: $7.4 billion
Zacks Rank: 4
Price Performance (YTD): 17.1%
We are skeptical about the impact of rising interest rates, given the company’s exposure to long-term leased assets as well as a high-debt financial structure. Also, since its properties are leased to corporate tenants, which include offices, we anticipate that the new supply in the coming year will put the company’s performance to test.
Chesapeake Lodging Trust : This REIT is a self-advised hotel investment company focused on investments in upscale hotels in business, airport, convention markets, and select-service hotels at urban settings or locations in the United States.
Market Cap: $1.6 billion
Zacks Rank: 4
Price Performance (YTD): 6.3%
The company remains focused to overhaul its hotels in a bid to boost revenue per available room (RevPAR). However, it is selling non-core assets to meet the capital requirements for this extensive redevelopment pipeline. This is expected to dilute the company’s 2018 earnings. Further, amid a rising interest-rate scenario, access to cheap debt will remain a challenge.
Note: All EPS numbers presented in this write up represent funds from operations (FFO) per share. FFO, a widely used metric to gauge the performance of REITs, is obtained after adding depreciation and amortization and other non-cash expenses to net income.
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5 Soaring REIT Stocks That Might Lose Steam in 2018
The rising interest-rate environment and an aging real estate cycle have taken a toll on the performance of real estate investment trusts (REIT) in 2017. In fact, since the beginning of the year through Dec 22, 2017, the industry has underperformed the broader market, as indicated by the FTSE/NAREIT All REITs Index’s total return of 7.7% over this time frame versus the S&P 500’s 22.2% gain.
In addition, the Fed’s recent decision to hike benchmark interest rates by a quarter point to a target range of 1.25-1.5% along with the tax reforms remain the biggest near-term challenges for REITs heading into 2018. Since REITs are heavily dependent on debt for acquisitions, development and redevelopment, higher interest rates raise the debt-financing costs and impact the profitability from such endeavors. Also, since REITs are seen as bond substitutes, amid a rising rate environment, dividend paid to investors might appear less attractive.
Furthermore, with corporate taxes being significantly slashed, the valuation premium, which REITs previously enjoyed on account of tax advantages, shrinks. Specifically, lower taxes are anticipated to accelerate earnings growth for the broader markets but the same might not be beneficial for REITs.
Also, the increased risk appetite of investors highlights that capital will not be flowing in this defensive sector. This, along with the skinny earnings growth rates for REITs, will likely put the sector at a comparative disadvantage in the year to come.
Although some stocks gained in 2017, on the back of robust fundamentals and/or improving outlook of individual asset categories, the above-mentioned factors are expected to impede growth in 2018.
In order to identify these stocks, we have created a three-faceted screen. First of all, we picked stocks that have gained more than 2% in the year-to-date (YTD) period.
Next, we considered companies with market capitalization of more than $1 billion.
Finally, we have picked stocks that carry a Zacks Rank #4 (Sell) or 5 (Strong Sell).
You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Here are stocks that made it through the screen:
STORE Capital Corporation : This Maryland-based REIT is engaged in the acquisition, investment and management of Single Tenant Operational Real Estate (STORE properties). It acquires STORE properties from operators and renting it back to them, through a long-term lease. This enables operators to avoid incurring debt to finance the real estate.
Market Cap: $4.9 billion
Zacks Rank: 4
Price Performance (YTD): 4.2%.
With interest rates moving north, this REIT will be at risk in 2018, due to its significant exposure to long-term leased assets, which carry fixed rental rates. As a result, as interest rate flares up, the cost of borrowing will escalate accordingly, while revenue flows will not get adjusted quickly due to the fixed-rate nature, leading to an adverse impact on profitability. Amid these, the Zacks Consensus Estimate for funds from operations (FFO) per share for full-year 2018 has been revised downward by a cent in a month’s time.
(Looking for the Best Stocks for 2018? Be among the first to see our Top Ten Stocks for 2018 portfolio here.)
Monmouth Real Estate Investment Corporation (MNR - Free Report) : This industrial REIT focuses on modern, single tenant, industrial buildings in prime locations, leased primarily to investment-grade tenants or their subsidiaries.
Market Cap: $1.3 billion
Zacks Rank: 4
Price Performance (YTD): 15.2%.
The e-commerce boom has helped the industrial real estate market to grow and consequently industrial REITs have been enjoying high absorption and occupancies. Nevertheless, with occupancies already at an all-time high, further growth in this measure is unlikely.
Moreover, the company has high exposure to debt with a debt-to-equity ratio higher than the industry’s average. The recent interest-rate hike is anticipated to have an adverse impact on this REIT. Also, the Zacks Consensus Estimate for FFO per share for fiscal2018 has moved down 2.2% over the past month.
Douglas Emmett (DEI - Free Report) : This REIT owns and operates Class A office properties as well as multi-family apartment units in the premier coastal submarkets of Los Angeles and Honolulu.
Market Cap: $8 billion
Zacks Rank: 4
Price Performance (YTD): 12.2%.
Oversupply remains the largest potential risk to this REIT.In fact, a whole lot of office and apartment properties are slated for delivery in the first half of 2018 as delayed construction activities have pushed their completion dates from 2017. This elevated supplyis likely to heighten competition, result in aggressive rental concessions and moderate pricing power. Moreover, office-using employment growth has moderated across various markets, limiting growth potential for 2018. Also, the Zacks Consensus Estimate for 2018 FFO per share has been revised downward by a cent in the last month.
W.P. Carey (WPC - Free Report) : This New York-based REIT is engaged in providing long-term sale-leaseback and build-to-suit financing to companies. The firm primarily invests in commercial properties that are generally triple-net leased to single corporate tenants, including office, warehouse, industrial, logistics, retail, hotel, R&D, and self-storage properties.
Market Cap: $7.4 billion
Zacks Rank: 4
Price Performance (YTD): 17.1%
We are skeptical about the impact of rising interest rates, given the company’s exposure to long-term leased assets as well as a high-debt financial structure. Also, since its properties are leased to corporate tenants, which include offices, we anticipate that the new supply in the coming year will put the company’s performance to test.
Chesapeake Lodging Trust : This REIT is a self-advised hotel investment company focused on investments in upscale hotels in business, airport, convention markets, and select-service hotels at urban settings or locations in the United States.
Market Cap: $1.6 billion
Zacks Rank: 4
Price Performance (YTD): 6.3%
The company remains focused to overhaul its hotels in a bid to boost revenue per available room (RevPAR). However, it is selling non-core assets to meet the capital requirements for this extensive redevelopment pipeline. This is expected to dilute the company’s 2018 earnings. Further, amid a rising interest-rate scenario, access to cheap debt will remain a challenge.
Note: All EPS numbers presented in this write up represent funds from operations (FFO) per share. FFO, a widely used metric to gauge the performance of REITs, is obtained after adding depreciation and amortization and other non-cash expenses to net income.
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