Commentary - March 2024CenterSquare Real Estate Fund

Portfolio Manager Eric Rothman of the Cromwell CenterSquare Real Estate Fund discusses the attractiveness of real estate investment trusts (REITs), the health of the sector, and recent merger and acquisition activity.

Why is now a good time to invest in REITs?

The latest Federal Reserve cycle has been unique, consequently and disproportionately hurting REIT share price performance. Now there has been a sea change in the macroeconomic landscape as global central banks have begun to wind down their interest rate hiking policies and are expected to soon pivot to a more accommodative stance as inflation is reigned in. This shift should boost interest-rate sensitive sectors such as real estate.

We believe maintaining a stable monetary policy would be helpful to the REIT market. In addition, interest rates cuts could boost investor interest and sentiment, real estate fundamentals, cash flow and earnings, and potentially total returns to investors.

Given a slight chance of a recession in the near future still exists, investors could consider REITs as a defensive play for their durable cash flow, hard assets and yield potential. Recessions have historically impacted real estate fundamentals less than other economically sensitive sectors of the economy. REITs generally feel that effect later than the rest of the economy, making them an attractive place for investors in the early stages of a recession.

Would you please discuss the health of real estate subsectors given the current environment?

Broadly speaking, we believe commercial real estate fundamentals appear healthy. Rent levels and income growth are benefitting from recent inflation.

When looking at the vacancy rates across various sectors, we find the following:

  • In most retail segments, data centers and senior housing, vacancy rates are low and falling.
  • In the industrial, self storage and traditional apartment sub-sectors, vacancy rates are easing from very high levels.
  • In the office segment, occupancy is declining but at a decelerating rate.

In addition, many REITs tend to have conservative balance sheets, well-laddered maturities, and quality assets, which we believe will serve them well in a constrained-capital world. Although interest rates are elevated compared to 2022 and early 2023 levels, pricing for debt capital has been relatively favorable as a result of both lower base rates and tighter spreads. Finally, capital raised late 2023 and early 2024 may help de-risk 2024 business plans and provide capital for future investments.

Would you please discuss merger and acquisition (M&A) activity in the real estate market?

There are numerous candidates for mergers, acquisitions and/ or privatizations once the debt markets fully open for large-scale transactions.

One example of a recent transaction includes Blackstone, the investment management company. Blackstone announced in February that it planned to take the real estate firm, Tricon Residential, private for $3.5 billion at a 30% premium to the stock’s close at announcement.

We have also seen a few asset acquisitions across the REIT space, including Rexford Industrial Realty, a REIT focused on Southern California industrial properties, announced in March it acquired 3 million square feet of assets from Blackstone Real Estate for $1 billion.

In April, Blackstone Real Estate Partners X announced it would acquire Apartment Income REIT (AIRC) for a 24.8% premium to the prior closing price. AIRC owns a portfolio of 76 urban assets totaling 27,100 apartment units spread across 10 major coastal U.S. markets.

Finally, we saw the first initial public offering (IPO) in almost three years in the first quarter when American Healthcare REIT went public and raised $750 million of equity. American Healthcare REIT is a larger REIT that is invested in outpatient medical office buildings, skilled nursing facilities, and senior housing communities. We anticipate more IPOs later this year, likely in the non-traditional real estate sub-sectors.

We believe this recent activity is evidence of the trend towards higher M&A and privatizations due to the currently large discounts of many REITs.