Investors who took refuge in real estate investment trusts (REITs) last year for income and safety are revisiting assumptions made early in the pandemic.
While it’s been a good year for the sector, with the benchmark iShares S&P/TSX Capped REIT Index ETF XRE-T -1.04% up 26 per cent year to date, there have been some surprises. Data centres, cloud computing and anything to do with working from home were hot last year, but apartment and multifamily REITs are leading the way this year. Anything to do with “last-mile delivery” is still booming, and it’s not all bad for shopping malls and retail REITs.
“We’re not bullish on data centres,” says Andrew Moffs, senior vice-president and portfolio manager at Toronto-based Vision Capital Corp., a REIT specialist. “We’re very bullish about warehouses, life sciences, single and multifamily dwellings. Fundamentals are really strong there and will continue to be.”
Eighteen months ago, office buildings were emptying out, malls were shut down and residential REITs tumbled as investors worried a recession would made it a challenge for many to pay the rent.
In contrast, the pandemic energized REITs for data-storage facilities, internet and cellular communication towers and those involved in the logistics of storing and shipping goods. REITs focused on laboratories enabling medical research also did well.
Both Mr. Moffs and Greg Taylor, chief investment officer at Toronto-based Purpose Investments Inc., say slowing demand for data-centre REITs is a case of supply and demand.
With the amount of space for data centres having grown 30 per cent annually over the past five years, “there’s a lot of new space in the market,” which means demand is going to slow, Mr. Moffs says. He sees signs that rents are falling with lease renewals. Nor does Vision Capital see much upside for office-based REITs and most bricks-and-mortar retail REITs, though the latter have rebounded from last year’s lows.
Both Mr. Moffs and Mr. Taylor agree that one area in the retail sector that holds promise is REITs with big-box companies as anchor tenants.
For example, Choice Properties REIT CHP-UN-T -0.67% owns properties anchored by grocery store chain Loblaw Cos. Ltd., which is also the REIT’s largest shareholder.
Similarly, CT REIT CRT-UN-T -0.79% owns 360 properties, most of which are Canadian Tire Corp. stores. Canadian Tire is also the largest shareholder.
Vision Capital has $900-million in assets under management (AUM) and has a private equity component as well as Vision Alternative Income Fund. This open-ended mutual fund focuses on publicly traded real estate securities using a long- and short-selling approach. The fund has $220-million in AUM, split roughly between Canada and the United States.
Almost two-thirds of the holdings (65 per cent) are in single- and multifamily REITs, with the next largest area being industrial and warehousing (27 per cent). Vision Capital has short positions in office and retail REITs. The fund yields 4 per cent annually, paid monthly, and has a discount brokerage fee of 1.5 per cent.
Purpose Investments offers Purpose Real Estate Income Fund, which has $34-million in AUM, with a slightly higher 60-40 Canada-to-U.S. weighting and a more balanced subsector approach. Residential is its largest component (28 per cent) with industrial, including warehousing, the next biggest (19 per cent).
The fund is actively managed and offered as a mutual fund or exchange-traded fund (PHR-T) for the same management fee of 0.65 per cent. It yields 3.59 per cent.
Mr. Taylor says it has been a good year for REITs because they offer steady income and are seen increasingly as an inflation hedge. With interest rates at a generational low, property values are rising rapidly, making REIT holdings more valuable.
“The inflation and scarcity narrative is definitely a derivative of the pandemic. With so much money out there, it’s pushing real assets higher and REITs are a play on that,” he says. “That’s what’s helping push the demand for REITs, in general. Real estate benefits in an inflationary environment.”
Looking ahead, the accelerating trend to online retail has created a huge demand for warehouse space. One sign of the times is Blackstone Group Inc.’s recent takeover of WPT Industrial Real Estate Investment Trust for US$3.1-billion. Both the Vision Capital and Purpose funds hold the REIT.
Both experts say a by-product of pandemic supply bottlenecks is a move away from just-in-time delivery to one that includes an inventory cushion, another tailwind for industrial REITs.
“There’s been an awakening that just in time doesn’t work,” Mr. Moffs says. “The disruptions of the supply chains mean you’re going to need to increase inventories.”
REITs with a focus on single- and multifamily rentals recovered once it became clear that government support programs would help everyone pay the rent.
Mr. Moffs says the opportunities in this area differ in the two countries. In the U.S., there is a migration to Sunbelt states beyond Florida and Arizona as people opt for more space that’s cheaper in a better climate.
“The catalyst is work from home,” he says. “You can go from renting in a high-density apartment building [in a northern city] to renting a single-family home with a place to work and a backyard at a lower cost.”
Both the Vision Capital and the Purpose Investment funds hold BSR REIT HOM-U-T -0.98%, which is based in Little Rock, Ark., and plays to this theme. It owns 29 apartment and townhouse complexes in the three adjacent states of Texas, Arkansas and Oklahoma.
In Canada, the residential catalyst is the federal government’s commitment to increase immigration. This supports the demand for all kinds of rentals, with limited new units being built. Colleges and universities have reopened, so dorms are full.