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REITs: Uninspiring Valuations, Still Vulnerable to Housing Bust

by: J.D. Steinhilber September 11, 2008 | about stocks: FTY / IYR / VNQ    
J.D. Steinhilber

J.D. Steinhilber

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The extreme over-valuation of REITs that had built up by late 2006 was largely corrected by 2007’s major decline in REIT prices. However, REIT valuations never moved to an attractive zone, except relative to Treasury yields, which are considered over-valued themselves and thus a shaky foundation upon which to build a valuation case for REITs (see Charts A and B).


The current yield of 5.7% on the REIT index is approaching the 6.3% average REIT index yield over the past 10 years. Although our view of REITs is much less negative than it was in 2007, we are still neutral at best regarding the asset class. REITs are not cheap, but they don’t look expensive either, given the current interest rate environment.

In addition to uninspiring valuations, the sector is credit dependent and still vulnerable to declining underlying real estate asset values. Still, the sector remains attractive to yield-oriented investors, and unless bond yields rise sharply, the majority of the price correction in REITs has likely occurred.

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This article has 2 comments:

  •  
    Sep 11 07:11 AM
    Expectations are just miserable for the near-term commercial real estate: mortgages may roll over with much higher spreads; contraction and failure to exercise renewal options by retailers will create vacancies at weaker malls; apartment reits can no longer sell off properties to condo-converters as these guys go down in flames.
    Reply
  •  
    Sep 14 11:48 AM
    I have begin scaling into the VNQ. The spreads on REITS VS Treasury's are higher than normal and I don't see rates going up substantial from here. If you take a look at quality preferred Reit yields vs Treasury's the spread is really wide. I for one don't beleive the world is ending and these spreads aren't warranted. So i am a buying of REITS and Reit Preferreds at these levels.
    Reply
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