Real Estate Weekly Outlook
U.S. equity markets climbed to fresh record highs on the Holiday-shortened week as strong housing data, positive vaccine developments, and “market-friendly” Cabinet picks offset ongoing COVID concerns amid an ongoing rise in coronavirus case counts across much of the country. Following a familiar pattern as the prior two weeks, AstraZeneca (AZN) reported on Monday that its coronavirus vaccine candidate achieved effectiveness of up to 90%, essentially in line with the 95% effectiveness reported last week for Pfizer’s (PFE) candidate and 94.5% reported for Moderna’s (MRNA) candidate as vaccine shipments have reportedly already commenced in the United States.
Pushing its November gains to over 11%, the S&P 500 ETF (SPY) rallied another 2.3% this past week led by the more economically-sensitive sectors amid a continuation of the vaccine-driven reopening trade. Real estate equities delivered a mixed week, however, as strong performance from the beaten-down COVID-sensitive property sectors was offset by weakness from the “stay-at-home” winners. Pushing its November gains to just shy of 11% as well, the broad-based Equity REIT ETF (VNQ) gained 0.3% on the week with 11 of 18 property sectors in positive territory while the Mortgage REIT ETF (REM) jumped another 4.3%, its fourth-straight week of strong gains.
Despite an ongoing “third wave” of coronavirus-induced economic shutdowns, vaccine optimism and signs of a potential moderation in the outbreak worldwide lifted the Small-Cap (SLY) and Mid-Cap (MDY) to another week of outperformance. 10 of the 11 GICS equity sectors finished higher on the week led by the Energy (XLE) and Financials (XLF) sectors as investors breathed a sigh of relief following reports that former Federal Reserve Chair Janet Yellen would be President-Elect Biden’s pick as Treasury Secretary. Meanwhile, investors also cheered another slate of strong housing data which lifted the Hoya Capital Housing Index to fresh highs as the U.S. housing industry continues to be a stabilizing force throughout the recent economic recovery.
Real Estate Economic Data
Below, we recap the most important macroeconomic data points over this past week affecting the residential and commercial real estate marketplace.
On that point, the Census Bureau reported this week that New Home Sales in October smashed expectations, surging by 41.5% from last year amid a continuation of the widely-unexpected “housing boom.” The housing industry has exhibited few signs of cooling, either, as the Mortgage Bankers Association reported this week that mortgage applications to purchase a single-family home are now higher by 19% from last year while refinancing applications are higher by 79%. The 30-Year Fixed Mortgage Rate with conforming loan balances stands at 2.92%, an all-time series low on the MBA index.
Ironically, one of the emerging constraints on the further upside for New and Existing Home Sales is the simple lack of homes available to sell. The inventory of new homes for sale is now lower by 13.4% from last year while the Months’ Supply of new homes stands at just 3.3 months, down from a recent peak of 7.4 months late 2018. On the existing sales side, the NAR reported last week that inventory of existing homes dipped 19.8% from last year, representing a 2.5-month supply at the current sales pace, the lowest in the survey’s history. As noted last week, more than 7 in 10 homes sold in October 2020 were on the market for less than a month.
As we forecast at the beginning of the pandemic, even in the face of the pandemic, home prices have not only remained stable but have also significantly reaccelerated as record-setting demand for single-family housing clashes with record-low inventory levels. Home values jumped 7.0% annually in September according to the S&P CoreLogic U.S. National Home Price Index released this week, which was the highest annual gain since May 2014. The FHFA also announced this week that its House Price Index increased 9.1% in September, the strongest rate in 14 years. Last week, the NAR reported that prices of existing homes sold rose by 15.5% from last year to fresh record highs.
Naturally, this reacceleration in home price appreciation has sparked a new “Bubble 2.0” narrative among the pessimists who have been confounded and caught offsides by the resilience of the housing market throughout the pandemic. Importantly, the sudden surge in home prices has come alongside a similarly sized increase in personal incomes. The BEA reported this week that Personal Incomes are now higher by 6.2% from last year while disposable income per capita has surged 6.4%, powered by WWII-levels of fiscal stimulus. On a longer-term basis, home price appreciation has been broadly in line with rising income levels over nearly all recent measurement periods.
Why has “this time been different” for the U.S. housing market? For one, lending standards were brutally tight over the last decade and the speculation in both building and home buying that drove the pre-recession housing bubble has been almost entirely absent. Subprime and variable-rate mortgages, which were at the root of the cascade of foreclosures that sparked the financial crisis, have been essentially nonexistent as subprime loans have accounted for just 2% of lending activity in 2020 according to data from the New York Fed. By comparison, “Super Prime” (760+) accounted for 54% of all originations from 2010 to 2019, and that share has risen to more than 69% in 2020.
At the outset of the pandemic, we noted that while the “housing crash” narrative will certainly drive clicks and page views, “Given the fact that the U.S. housing sector has undergone a “great deleveraging” over the past decade… it’s far easier to envision a [more boring] scenario where housing leads the recovery once the dust settles than a 2008-like scenario of cascading issues across the sector.” Data released last month by the Federal Reserve showed that homeowner balance sheets have, in fact, never been stronger as mortgage debt service as a percent of personal disposable income ticked to fresh record lows in the second quarter despite the raging pandemic.
Commercial Equity REITs
Consistent with the Black Friday theme, there was a bid for the most beaten-down and heavily discounted REITs as the shutdown-sensitive retail and lodging sectors continued their post-vaccine rebound this past week led by troubled retail landlords Pennsylvania REIT (PEI) and Cedar Realty (CDR), the former of which declared bankruptcy earlier this month and the latter enacted a stock split this week in order to meet exchange listing standards. Ashford Hospitality (AHT) dragged on the downside, plunging nearly 30% after announcing that it will issue 38.4 million new shares as the result of its controversial preferred stock exchange offer.
On that point, as discussed last week in our report REITs: A Tale Of 2 Crises, the vast majority of the REIT sector has been able to avoid these types of highly-dilutive equity offerings that were far more common during the Financial Crisis. Our quarterly “State of the REIT Sector” explained how “this time has been different” both for better and worse. Some aspects of this crisis were more acute than the Financial Crisis – including the wave of dividend cuts – but strong balance sheets and access to capital prevented this type of shareholder dilution that resulted in a “lost decade” for REITs with the exception of a handful of highly-levered REITs.
Single-Family Rentals: Single-family rental REIT Front Yard Residential (RESI) surged more than 20% this week after Pretium and funds managed by Ares Management (ARES) agreed to raise their bid to acquire the small-cap SFR REIT to $16.25 per share in cash from $13.50 in response to another party submitting a binding proposal for REIT. While multifamily REITs have been hit by the ongoing “urban exodus,” single-family rental REITs reported very strong Q3 results with average occupancy rates rising to record-highs across the sector at nearly 98%, up about 200 basis points from last year while turnover rates continue to hit record lows. Blended lease rates rose a strong 4.4% across the sector on renewal growth of 2.8% and new lease growth of 5.4%. Rent collection has been near-spotless.
Industrial: Monmouth Real Estate (MNR), one of a handful of REITs that reports earnings results outside the typical window, rose by 1.9% this week reporting fiscal Q4 results. The company reported that rent collection has been almost perfect at 99.7% from March through November while its occupancy rate ticked up by 50 basis points from last year to 99.4%. All five of the industrial REITs that provide guidance during Q3 earnings season raised estimates, led by Prologis (PLD), Duke Realty (DRE), and Rexford Industrial (REXR). On average, industrial REITs expect FFO growth to accelerate in 2020 to 8.1% which will almost surely be the highest FFO growth rate among major sectors.
Mortgage REITs delivered their fourth-straight week of solid gains as residential REITs rallied another 4.7% while commercial mREITs gained 5.7%, each pushing their respective gains for November above 20%. Consistent with the post-vaccine-rotation trade seen across the broader equity market, it has been the most beaten-down mREITs that have driven the recent rally, led this week by Exantas Capital (XAN), AG Mortgage (MITT), and Western Mortgage (WMC), all of which are still off by more than 65% this year. New Residential Investment (NRZ) was among the laggards following a surge in the prior week after filing plans to spin off its mortgage origination unit.
As discussed in our Earnings Recap, driven by a resurgent housing market, residential mREITs reported an average 7% gain in book values in the quarter following the 9% gain in Q2. Commercial mREITs reported an average 2% rise in book values in Q3 following the fractional gain in Q2. After 32 mortgage REITs cut their dividends from February through June, we have not seen any additional cuts since then, but we’ve seen two increases. The average residential mREIT pays a forward dividend yield of 8.0% while the average commercial mREIT pays a dividend yield of 7.3%.
REIT Preferreds and Baby Bonds
Last quarter, we published REIT Preferreds: Higher Yield Without Excess Risk. The InfraCap REIT Preferred ETF (PFFR) ended the week higher by 0.7% but remains lower by 8.4% on the year. The preferred issues from troubled mall and hotel REITs led the way this week, led by Sotherly Hotels (SOHO) and Pennsylvania REIT. Residential mortgage REIT Annaly Capital (NLY) announced this week that it will redeem all of its 7.50% Series D Cumulative Preferred Stock (NLY.PD) on December 23, 2020. Among REITs that offer preferred shares, the performance of these securities has been an average of 17.45% higher in 2020 than their common shares on a price-return basis and currently trade at a 6% discount to par value on average.
2020 Performance Check-Up
For the year, Equity REITs are now lower by roughly 13.0% and Mortgage REITs are off by 29.9% on a price return basis. This compares with the 13.0% gain on the S&P 500 and the 5.0% gain on the Dow Jones Industrial Average. Five of the 18 REIT sectors are in positive territory for the year, while on the residential side, five of the eight sectors in the Hoya Capital Housing Index are in positive territory for the year. At 0.84%, the 10-Year Treasury Yield (IEF) has retreated by 108 basis points since the start of the year and is roughly 240 basis points below recent peak levels of 3.25% in late 2018, but 32 basis points above its all-time closing low of 0.52% in August 2020.
Economic Calendar In The Week Ahead
Employment data highlights next week’s economic calendar, headlined by ADP Employment data on Wednesday, Jobless Claims on Thursday, and the BLS Nonfarm Payrolls report on Friday. Economists are looking for employment gains of roughly 500k in October following last month’s gain of 638k and for the unemployment rate to tick down to 6.7%. We’ll also see Construction Spending data on Tuesday, the weekly MBA Mortgage Application data on Wednesday, and a flurry of PMI data throughout the week.
If you enjoyed this report, be sure to “Follow” our page to stay up to date on the latest developments in the housing and commercial real estate sectors. For an in-depth analysis of all real estate sectors, be sure to check out all of our quarterly reports: Apartments, Homebuilders, Manufactured Housing, Student Housing, Single-Family Rentals, Cell Towers, Casinos, Industrial, Data Center, Malls, Healthcare, Net Lease, Shopping Centers, Hotels, Billboards, Office, Storage, Timber, Prisons, Real Estate Crowdfunding, High-Yield ETFs & CEFs, REIT Preferreds.
Disclosure: Hoya Capital Real Estate advises an Exchange-Traded Fund listed on the NYSE. In addition to any long positions listed below, Hoya Capital is long all components in the Hoya Capital Housing 100 Index. Index definitions and a complete list of holdings are available on our website.
Disclosure: I am/we are long HOMZ, AMT, ARE, AVB, BXMT, DRE, DLR, EFG, EQIX, FB, FR, MAR, MGP, NLY, NHI, NNN, PLD, REG, ROIC, SBRA, SPG, SRC, STOR, STWD, PSA, EXR, AMH, CUBE, ELS, MAA, UDR, SUI, CPT, NVR, EQR, INVH, ESS, PEAK, LEN, DHI, HST, AIV, MDC, ACC, PHM, TPH, MTH, WELL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Hoya Capital Real Estate (“Hoya Capital”) is an SEC-registered investment advisory firm that provides investment management services to ETFs, individuals, and institutions, focusing on portfolio and index management of publicly traded securities in the residential and commercial real estate industries. A complete discussion of important disclosures is available on our website (www.HoyaCapital.com) and on Hoya Capital’s Seeking Alpha Profile Page.
It is not possible to invest directly in an index. Index performance cited in this commentary does not reflect the performance of any fund or other account managed or serviced by Hoya Capital Real Estate. Nothing on this site nor any published commentary by Hoya Capital is intended to be investment, tax, or legal advice or an offer to buy or sell securities. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and should not be considered a complete discussion of all factors and risks. Data quoted represents past performance, which is no guarantee of future results. Investing involves risk. Loss of principal is possible. Investments in companies involved in the real estate and housing industries involve unique risks, as do investments in ETFs, mutual funds, and other securities. Please consult with your investment, tax, or legal adviser regarding your individual circumstances before investing. Hoya Capital, its affiliate, and/or its clients and/or its employees may hold positions in securities or funds discussed on this website and our published commentary. A complete list of holdings is available and updated at www.HoyaCapital.com.