INSIGHTS

On December 07, 2012

Low Interest Rates are Good for REIT Balance Sheets

1) Real Estate Investment Trusts (REITs) continue to have a YTD positive return of 13.9% through October 31, 2012 (MSCI U.S. REIT Total Return Index, per Bloomberg).

a) Earnings season is over. Overall, the REITs have shown some good results and some disappointing results. Some calls have indicated a concern for fundamental growth in selected markets.

b) Capital is abundant to REITs across the entire capital stack (debt, preferred and equity).

c) REITs balance sheets have positioned REITs to weather an economic downturn, increase operations and opportunistically recycle their assets to higher and better use assets.

d) If the economy recovers, a large risk to the REIT equities would be sector rotation as investors may move to higher risk assets.

2) Capital Availability

a) Capital continues to be available to REITs, but availability may be slowing due to concerns over Europe and the health of the U.S. economy.

b) The preferred market continues to issue equity. Prudent management teams are beginning to term out debt to stagger future maturities.

3) Acquisition Updates:

a) REITs continue to see acquisition opportunities in the future, but private Real Estate buyers are beginning to bid aggressively in different markets.

b) Government-sponsored enterprise (GSE) availability for certain asset classes, such as multi-family and student housing, has lowered the cost of debt for certain REITs. This cost of debt is causing cap rate compression in these asset classes, causing targets to be highly priced. The GSE cost of capital is showing some signs of rising.

c) Transaction velocity appears to be moderating. REITs have an advantage over other buyers due to the access to the Capital Markets, but the number of transactions is slowing. Recent concern over the U.S. economy has created a spread between what buyers are willing to pay and sellers willing to offer. This spread will need to close for transaction velocity to pick up.

4) Valuation:

a) REITs have had a great return YTD, up 13.9% through October 31, 2012. REITs are operationally growing into their multiples.

b) We expect REIT operational fundamentals to grow into the multiples especially if an economic recovery occurs.

Overall, REITs continue to be positioned to grow organically and via acquisition. Foreign capital is moving towards safety, and U.S.-based REITs are considered safer. U.S. capital looking for yield and safety is continuing to go into the REIT market. Treasury yields continue to be more than the median 10-year spread over the 10-year, which should be attractive to certain yield seeking capital.

Investors also have gained some clarity on future monetary policy from the election results.

We should expect the same low interest rate environment as we have seen since 2008 for the near future. This should help REIT balance sheets as REITs refinance existing debt with a lower cost of debt than 10 years ago.

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at www.aamlive.com/blog/about/disclosures. For additional commentary or financial resources, please visit www.aamlive.com


The information contained herein is obtained from Confluence Investment Management LLC and believed to be reliable. The information is not warranted as to completeness and accuracy and is subject to change without notice. The foregoing has been prepared solely for informational purposes and is not an offer to buy or sell or a solicitation of an offer to buy or sell any security.


Advisors Asset Management, Inc. (AAM) and Confluence Investment Management LLC are not affiliated and the views expressed in this commentary are not necessarily that of AAM.

Confluence Investment Management LLC is the Portfolio Consultant to the Confluence Utilities Portfolio. The Portfolio Consultant is not an affiliate of Advisors Asset Management, Inc. (AAM), the sponsor of this trust.