Besides Interest Rates, Here's Why REIT Investments Seem Risky

Indications from Fed officials on raising the key interest rate multiple times over the next two years have spread jitters in the REIT industry. The bond rout has also added to its woes. Together with this, the performance of REITs can be clouded by the weakness in the underlying asset categories. Therefore, unless close attention is paid to all the weaknesses before investing in REIT stocks, one can end up incurring big losses.

Fundamental Weakness

In fact, supply issues in a number of markets have raised the alarm for many residential REIT stocks. Markets with high rents like San Francisco and New York have been much affected and the high end and luxury apartment categories are flooded with new supply. But higher supply usually curtails landlords’ ability to demand higher rents and leads to lesser absorption. There is also a trend of increased concessions in San Francisco and the New York City market.

Reflecting such weaknesses, in Q4, national effective rent growth increased 2.3% according to early apartment data from AXIOMetrics. This was over 2 percentage points lower than the 4.6% rent growth experienced in the year-ago quarter. Also, occupancy of 94.7% in the fourth quarter was down from 95.1% in the third quarter and 95.0% in fourth-quarter 2015. Furthermore, there seems to be no respite from the situation anytime soon and the moderation is anticipated to continue this year too with a whole lot of new construction slated to be delivered.

Further, though upbeat consumer confidence and an improving economy have infused optimism into the retail market, mall traffic continues to suffer amid a rapid shift in customers’ shopping preferences and patterns with online purchases growing by leaps and bounds. These have made retailers reconsider their footprint and eventually opt for store closures like that of Macy’s (M).

Also, retailers that are not being able to cope with competition are filing bankruptcies. This is a pressing concern for retail REITs, as the trend is curtailing demand for the retail real estate space considerably.

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