Despite an improvement in the fundamentals of the real estate market from the onset of the pandemic, there are concerns stemming from rate hikes to tame inflation, geopolitical issues and an economic slowdown. These are affecting the leasing activity of several asset categories and hurting the REIT and Equity Trust – Other industry’s overall prospects.
However, with the industry offering the real estate structure for several economic activities, be it real or virtual, there are pockets of strength even amid this challenging environment. Particularly, with the growth of the digital economy, commercial real estate supporting it, like industrial and data centers, are likely to continue prospering in the foreseeable future. Also, easing of travel restrictions is encouraging. Amid this backdrop VICI Properties Inc. (VICI – Free Report) , STAG Industrial, Inc. (STAG – Free Report) and Gladstone Commercial Corporation (GOOD – Free Report) are likely to prosper.
About the Industry
The Zacks REIT and Equity Trust – Other industry is a diversified group that covers REIT stocks from different asset categories like industrial, office, lodging, healthcare, self-storage, data centers, infrastructures and others. Equity REITs rent spaces in these properties to tenants and earn rental incomes. Economic growth plays a pivotal role for the real estate sector as economic expansion translates into greater demand for real estate, higher occupancy levels and landlords’ increased power to ask for higher rents. Also, the performance of Equity REITs depends on the underlying asset dynamics and location of properties. So, delving into the fundamentals of these asset categories is essential before making any investment decision. It is important to figure out whether the pandemic-induced behaviors result in only a short-term impact or long-term structural changes.
What’s Shaping the Future of the REIT and Equity Trust – Other Industry?
Rate Hike, Recessionary Woes to Make It Challenging: The commercial real estate market is likely to remain challenging in the near term, given higher interest rates and recessionary woes. This is because the dependence of REITs on debt for business is more compared to the other industries, making investors skeptical about their performance in a rising rate environment. Also, as the investment world treats REITs as bond substitutes for their high and consistent dividend-paying nature, these companies are susceptible to rising rates. The geopolitical tensions have affected the commodities market, thereby fueling inflation. Also, the recessionary fears have raised concerns about REITs’ performance as economic growth plays a pivotal role in shaping the demand for real estate properties. In fact, leasing activity gets adversely affected amid economic uncertainty, high inflation and rising interest rates.
Certain Asset Categories to Continue to Bear the Brunt: The demand for a number of asset categories is likely to remain choppy in the near term. Particularly, in the office real estate market, the widespread adoption of hybrid work continues. While the demand for high-quality and well-located office buildings with employee well-being and productivity-enhancing amenities is likely to improve, older buildings with outmoded facilities will find it difficult to lure tenants, in turn raising the overall office vacancy rate. Amid a choppy economic environment and a fallback of capital funding as well as with supply increase owing to new construction activities, the life science real estate market is likely to experience a moderation from rapid growth in the prior years. In case of hotels, though leisure travel and the resumption of inbound international travel is encouraging, transient business travel is still lagging. Given the choppy economic environment and inflationary woes, and still-limited office attendance, business travel is likely to remain subdued in the near term. As such, with lower revenue growth and higher wages and operating costs, margins are expected to remain under pressure.
Digital Economy Growth to Continue to Affect Real Estate: Sectors like industrial, infrastructure and data centers, which support the digital economy, are likely to continue prospering in the foreseeable future. Demand for industrial real estate space is expected to be continued to be driven by growth in e-commerce and supply-chain transformations. Also, the location of properties will play a key role in driving demand. Markets with strong population growth and modern distribution space are expected to witness superior demand for ensuring fast delivery of orders made online. Also, locations near transportation hubs and high-quality infrastructure are likely to experience strong demand from tenants. Growing reliance on technology and acceleration in digital transformation strategies by enterprises are offering immense opportunities to data centers and infrastructure REITs.
Zacks Industry Rank Indicates Bleak Prospects
The Zacks REIT and Equity Trust – Other industry is housed within the broader Finance sector. It carries a Zacks Industry Rank #205, which places it at the bottom 18% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of the southward revision of funds from operations (FFO) per share outlook for the constituent companies in aggregate. Looking at the aggregate FFO per share estimate revisions, it appears that analysts are losing confidence in this group’s growth potential of late. Over the past year, the industry’s FFO per share estimates for 2022 have declined 7%. The same for 2023 has moved 14.1% south over the past year.
Before we present a few stocks that you might want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.
Industry Lags on Stock Market Performance
The REIT and Equity Trust – Other Industry has underperformed both the S&P 500 composite as well as the broader Zacks Finance sector in a year’s time.
The industry has declined 14.4% during this period compared with the S&P 500’s fall of 11.1%. Meanwhile, the broader Finance sector has declined 8.2%.
One-Year Price Performance
Industry’s Current Valuation
On the basis of the forward 12-month price-to-FFO ratio, which is a commonly-used multiple for valuing REIT – Others, we see that the industry is currently trading at 16.12X compared with the S&P 500’s forward 12-month price-to-earnings (P/E) of 18.29X. However, the industry is trading above the Finance sector’s forward 12-month P/E of 14.17X. This is shown in the chart below.
Forward 12 Month Price-to-FFO (P/FFO) Ratio
Over the last five years, the industry has traded as high as 22.10X, as low as 14.24X, with a median of 17.72X.
3 Equity REIT – Others Stocks Worth Betting On
VICI Properties Inc.: New York, NY-based VICI Properties Inc. is an experiential REIT engaged in the business of owning, acquiring and developing gaming, hospitality and entertainment destinations.
VICI Properties enjoys the ownership of three of the most iconic entertainment facilities on the Las Vegas Strip, namely Caesars Palace Las Vegas, MGM Grand and the Venetian Resort Las Vegas.
The company has made concerted efforts to grow its portfolio and team up with the best-in-class tenants. Such efforts are likely to aid VICI’s performance in the coming quarters.
VICI currently carries a Zacks Rank #2 (Buy). The Zacks Consensus Estimate for 2022 FFO per share of $1.92 reflects a 5.5% increase year over year. Moreover, over the past month, the Zacks Consensus Estimate for 2023 FFO per share witnessed a nearly 1% upward revision to $2.11, reflecting analysts’ bullish outlook. VICI Properties’ long-term growth rate is projected at 7.00%. The stock has also rallied 19.3% over the past year.
STAG Industrial Inc.: Headquartered in Boston, MA, STAG Industrial focuses on the acquisition, ownership and operation of industrial properties throughout the United States.
STAG’s portfolio comprised 563 buildings in 41 states, with roughly 111.6 million rentable square feet of space as of Sep 30, 2022.
STAG Industrial is poised to benefit from healthy demand on the fast adoption of e-commerce, with leasing activity getting support. Moreover, with supply chains transforming for faster fulfillment and resilience, STAG is likely to capture favorable fundamentals.
STAG currently carries a Zacks Rank #2. The Zacks Consensus Estimate for STAG Industrial’s 2022 and 2023 FFO per share have moved marginally north over the past two months to $2.21 and $2.25, respectively, calling for 7.3% and 2.1% increase year over year. The stock has also rallied 13.3% in the past three months.
Gladstone Commercial Corporation: Headquartered in McLean, VA, this REIT focuses on the acquisition, ownership and operation of net leased industrial and office properties across the United States.
GOOD’s real estate portfolio comprised 137 properties in 27 states, aggregating around 17.2 million square feet of space as of Sep 30, 2022.
Gladstone Commercial has been witnessing active leasing, aiding solid occupancy, healthy rental collections and ample liquidity to back its acquisitions and growth efforts.
As of Dec 31, 2022, Gladstone Commercial’s portfolio occupancy was 96.8% due to successful leasing activities. Moreover, Gladstone Commercial collected 100% of the fourth-quarter 2022 cash base rent.
Gladstone Commercial is also focused on expansion. With a well-poised portfolio and expansion efforts, GOOD is likely to capture favorable fundamentals of industrial real estate.
Although the stock has declined 5.3% in the past three months, the recent trend in estimate revisions for 2023 FFO per share indicates a favorable outlook for GOOD, with estimates moving 1.96% north over the past month. GOOD currently sports a Zacks Rank #1 (Strong Buy).
Note: Funds from operations (FFO) is a widely used metric to gauge the performance of REITs rather than net income as it indicates cash flow from their operations. FFO is obtained after adding depreciation and amortization to earnings and subtracting the gains on sales.