If you're looking for the best REIT stocks, you should review the definition of an oxymoron and maybe also have your sanity checked. Since REITs peaked in February 2007, the sector is down 75%, as measured by the benchmark MSCI U.S. REIT Index and 64% since last September alone.

Equity REIT yields are the now the highest they have been since 1990, and when compared to corporate bonds, valuations of Real Estate Investment Trusts are at their cheapest levels since 1993, according to Green Street Advisors. If you're a contrarian, this also means that investing in REITs could also be a great value play, especially if you have a longer term investment horizon.

On average, the highest equity REIT yields are in hotels and leisure sector, followed by industrial, apartments and retail. All yields are not created equally however, and you need to avoid REITs paying dividends in stock, as well as REITs with balance sheet issues. Even healthy REITs like Vornado Realty Trust (VNO) and Simon Property Group (SPG) have elected to pay their REIT dividends in stock, while General Growth Properties (GGP), a retail REIT that has been struggling to refinance billions in debt for months, could be in bankruptcy by the time you read this.

Accordingly, investors need to stick with companies that have low leverage and that are covering their dividends with operating cash. The former allows them to be buyers of accretive investments rather than distressed sellers, while the latter makes large dividend cuts less likely. Do not blindly chase high yields, as many have proven to be illusory. REITs also need to be operating in markets where they still have pricing power, and this is the most difficult criterion of all.

The Best REIT Stocks for 2009

One large cap name that has not yet cut its dividend is Avalon Bay (AVB), a well capitalized Apartment REIT with a portfolio concentrated in large, high-barrier-to-entry cities. This will protect AVB from the downturn, as will its focus on apartments. Apartment REITs are likely to outperform almost all REIT sectors but for healthcare. (click here for a list of Apartment REITs, including current yields. However, apartments will not be immune to the economic slowdown, so exercise caution in this sector too.

Highly levered AIMCO (AIV), also an apartment REIT, just reported a horrible fourth quarter, slashed its dividend and cut 300 jobs. In stark contrast, Mid America Apartment Communities (MAA) reported fourth quarter net income that was a penny ahead of last year as well as low levels of leverage. MAA's strong balance sheet will allow the company to be one of those REITs able take advantage of the downturn by making accretive investments. That's one of the reasons MAA will be the best Apartment REIT investment for 2009. (Update: on May 7, MAA reported FFO of $1.01/share, ahead of expectations and a 5% increase over Q1 '08)

In comparison to apartments, Healthcare REITs offer more safety for dividend-oriented investors. Healthcare REIT (HCN) reported very strong earnings for the quarter and full year, including FFO that was up 4% and 8%, respectively. HCN has a very strong balance sheet, was added to the S&P 500 in January, and just announced the company's 151st consecutive quarterly dividend (.68/share per quarter - payable in cash).

Retail REITs are suffering almost as much as hotel REITs and pricing power will continue to erode. However, one interesting play for more adventurous investors is Federal Realty Investment Trust (FRT). FRT actually managed to increase average rents over last year, which helped them post posted better-than-expected quarterly funds from operations (FFO). However, FRTs forecast for fiscal 2009 was cautious. FRT holds a high-quality portfolio in prime markets, including Washington D.C. and certain markets in California, which has largely screened it from the downturn.

Almost all REITs face severe, almost unprecedented headwinds and lots of uncertaintly. The combination of falling asset values, excessive leverage and frozen credit has already been a toxic combination for investors in many REITs. Friday's jobs report is expected to show the largest one-month decline in employment in nearly 60 years, and that will only exacerbate the toxicity.

Nevertheless, valuations are now beginning to reflect that and more. According to Green Street Advisors, REITs are trading at a 45.3% discount to the value of privately held real estate and also at their cheapest levels since 1993, the start of the modern REIT era. Bargains are beginning to show, but instead of chasing unrealistic and unsustainable dividend yields, the best REIT stocks for this market will be those with low leverage and high quality cash flows, especially in the apartment and healthcare sectors.

Click here for a list of Healthcare REITs
Click here for a list of Hotel REITs
Click here for a list of Industrial REITs
Click here for a list of Mortgage REITs
Click here for a list of Non-Traded REITs
Click here for a list of Office REITs
Click here for a list of Retail REITs
Click here for a list of Storage REITs

Click here for a REIT ETF List
Click here for a list of all REITs
Click here for a list of REITs paying dividends in stock

Information on how REITs work can be found in the post REIT Definition.




Disclosures: None at the time of publication
retail reits
apartment reits,
healthcare reits,
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Two weeks ago, I wrote that a very good buyside analyst I know was selectively buying all the Apartment REITs he could get his hands on. He told me this after closing out his iStar short, which he took from $20 to $8, so I was pretty interested in what he had to say. In essence, he said that Apartment REIT fundamentals have definitely weakened, but the market is discounting them too much, and in the longer term (2-3 years), there will be no better place to be. Here's why, along with two of my friend's top picks, and some helpful data from Green Street Advisors to assist you in your research.

First, the bad news. Vacancy rates are climbing in many markets and rent growth has slowed as the economy weakens. Job growth drives apartment demand, and we all know what's happened to job growth. Fewer jobs causes renters to double up with roommates, or move in with parents, friends or relatives, and that puts pressure on occupancies. In addition, the "shadow" rental market is increasing as foreclosed homes and failed condominium conversion projects are being added back into rental housing stock. This latter problem of failed condo projects is particularly acute in Florida. Reasonable people can dispute the true effect of the so-called "shadow" market on apartments, but it's true that the combination of increased supply and slower demand will reduce prices (rents).

This is all occurring against the backdrop of increasing capitalization rates, which is a yield/valuation metric in commercial real estate. "Cap" rates are just like bond yields, as they move up, par value goes down. Consequently, as investors demand higher cap rates in many markets, asset values are declining. Many Apartment REITs have relatively low levels of debt, but for those operators with higher leverage, declining asset values is not good and no different than any other high leverage scenario - everything must to go right for that strategy to be rewarding. If things don't go right, more highly levered players could be forced to sell assets in order to reduce leverage.

In terms of good news however, most apartment owners are not nearly as highly levered as operators in other REIT sectors, so they are not suffering from the same high profile debt issues in the retail, industrial and hotel businesses.

In addition, apartment assets continue to perform very well relative to other commercial real estate, and low multifamily loan delinquencies reflect that. Underscoring this thesis was a report out from the Mortgage Bankers Association this week showing that the 30-plus-day delinquency delinquency rate for multifamily assets held in commercial mortgage-backed securities (CMBS) was still below 1%. Delinquencies did tick up, although only slightly (by 0.10 percentage points to 0.63 percent).

The 60-plus-day delinquency rate on multifamily loans held or insured by Fannie Mae rose 0.05 percentage points to 0.16 percent. The 60-plus-day delinquency rate on multifamily loans held or insured by Freddie Mac fell 0.02 percentage points to 0.01 percent.

Multifamily loans held by insurance companies were performing even better. Of the 35,135 commercial/multifamily loans in life company portfolios, only 36 loans were 60plus days delinquent at the end of the quarter. These loans represented an aggregate unpaid principal balance of less than $144 million.

“Commercial/multifamily mortgages have not seen the same kind of deterioration in performance witnessed among other real estate loans, and at the end of the third quarter, delinquency rates for every investor group remained at the lower end of their historical ranges,” said Jamie Woodwell, MBA's vice president of commercial real estate research.

Fortunately, despite the meltdown in the capital markets and the takeover by the federal government (and perhaps even because of it), Fannie Mae and Freddie Mac are still providing plentiful debt financing for the apartment industry, and they are doing it in such a way as to move final maturities out into years where there will be less pressure from other CRE maturities/refinancings. If you can show (prove) 1.25x debt coverage at no more than 80% loan to value, Fannie Mae will happily write you a loan. Many large portfolio acquisitions are being financed by Fannie Mae as well, including the nearly $1 billion UDR, Inc (UDR) portfolio sale to DRA Advisors.

The case for multifamily is simple. For many years in the earlier part of this decade, the easy credit environment increased the homeownership rate at the expense of rental housing. Now the easy credit years are over, and those folks who could once qualify for a single family mortgage simply by having a pulse will no longer be able to do so. Moreover, the economy will not be in the tank forever, and job growth will eventually return. These dynamics are causing some industry observers, including the National Multi Housing Council, to go so far as to predict a shortage of rental housing as early as 2011.

I wrote about those dynamics extensively in this article on Apartment REITs. That article includes historical graphs of homeownership rates and vacancy rates, and recommends two Apartment REITs: Avalon Bay (AVB) and Essex Property Trust (ESS). That's convenient, because those are the very two REITs that my buyside friend is loading up on, and he's doing it with real money.

Avalon Bay Communities is a real estate investment trust which primarily focuses on developing high-quality, multi-family apartment communities for higher-income clients in high barrier-to-entry regions of the U.S. As of September 30, 2008, the company owned or held ownership interests in 177 apartment communities, with 50,034 apartment homes in 10 states. They have a great development pipeline in several strong markets and will be well-positioned for the eventual rebound.

Essex Property Trust is a fully integrated real estate investment trust that acquires, develops, redevelops, and manages multifamily apartment communities located in supply-constrained markets, primarily in strong markets along the West Coast. Today, Essex’s portfolio has grown to 133 apartment communities, comprised of 26,790 units, with 1,658 units in active development. The portfolio is currently concentrated in Southern California, the San Francisco Bay Area and the Seattle metropolitan area.

These two also happen to be carrying low levels of debt, so they are relatively safe from the turmoil in the capital markets. The three apartment REITs with the most leverage on their books are Denver-based AIMCO (AIV), Birmingham, Ala.-based Colonial Property Trust (CLP) and Richmond Heights, Ohio-based Associated Estates Realty Corp. (AEC). These would be best to avoid for the time being.

Green Street Advisors, a Newport Bach, Calif.-based consulting and research firm, produced some terrific data which illustrate the effect of a hypothetical 150 basis point increase in cap rates on the leverage ratios of several Apartment REITs. Nobody knows how high cap rates will rise, so 150 basis points may or may not be the right number, but it does help indentify those higher-risk Apartment REITs, particularly in this environment of toxic near-term debt maturities.

Under this 150 bp scenario, AIMCO's liquidity leverage pushed up to 76 percent; its solvency leverage moved to 81 percent. For Colonial, the numbers would edge up to 78 percent and 82 percent, respectively; for Associated, they rise to 77 percent and 83 percent, respectively. "That gets dangerous because you can't lever properties at about 70 percent to 80 percent," said Andrew J. McCulloch, an analyst at Green Street.

These three REITs (among others), are all working to reduce leverage, but that primarily means selling assets into weak markets, and/or extending available lines of credit, cutting dividends, moving maturities back, and, if stock prices rebound, possibly secondary stock offerings (which are obviously dilutive). The full article can be found on Multifamily Executive Online

	Leverage ratios (Now)		Leverage ratios if cap rates rise by 150 basis points
Company	Liquidity Leverage*	Solvency Leverage**	Liquidity Leverage*	Solvency Leverage*
AIMCO	64%	69%	76%	81%
American Campus Communities	56%	56%	68%	68%
Associated Estates	66%	71%	77%	83%
AvalonBay Communities	34%	34%	42%	43%
BRE Properties	56%	59%	45%	48%
Camden Property Trust	55%	55%	67%	67%
Colonial Properties Trust	66%	69%	78%	82%
Education Realty Trust	59%	60%	71%	72%
Equity Residential	50%	50%	61%	61%
Essex Property Trust	47%	51%	38%	42%
HOME Properties	60%	58%	71%	70%
Mid America Apartment Communities	53%	58%	63%	68%
Post Properties	56%	59%	46%	49%
UDR	55%	54%	67%	66%
Source: Green Street Advisors
* Liquidity Leverage ratio = book value of debt divided by estimated asset value
** Solvency Leverage ratio = marked-to-market value of liabilities plus preferreds divided by asset value

Unless Fannie Mae and Freddie Mac stop lending on apartments, which is unlikely, Apartment REITs should be able to avoid any real trouble with high leverage. But for the time being, it's probably wise to pursue a policy of absence of doubt, even with apartments.

Click here for a full Apartment REIT list, including current dividend yields.


Disclosures: None at the time of this writing.

apartment reits, reit
Avalon Bay, Essex Properties Trust

If you're thinking about buying pref shares, here it is in a nutshell: Commodity prices are now way down and the dollar up, which may afford room for yet another Fed rate reduction. Because they sit a notch higher on the capital stack, combined with historically high spreads over the current 10 year UST, preferreds are not only a little safer than the common (provided you don't mind much lower liquidity), but also a good value play.

Consequently, they make a good, lower-beta alternative to the higher risk of capital erosion and possible dividend cuts in REIT common stocks, with additional potential upside courtesy of Uncle Ben:

With respect to AVB and ESS specifically (the two picks highlighted in the vid), see the March REIT Wrecks post entitled "Play Subrime Safely With These Residential REITs".

See also REIT Definition for more information on the payout of common dividend. Scroll down for more REIT and real estate related news, resources and links.

Click here for a list of Apartment REITs
Click here for a list of Hotel REITs
Click here for a list of Industrial REITs
Click here for a list of Mortgage REITs
Click here for a list of Office REITs
Click here for a list of Retail REITs

Information on how REITs work can be found in the post REIT Definition.



Disclosure: None at the time of this writing.

Despite the industry wide turmoil in REITs and real estate, the Multifamily Executive News Service reports that Apartment REITs seem to be faring well, according to a recent study from Standard & Poor's Ratings Services.

Things might not look as good as 2006 and 2007, but they still aren't bad, according to George Skoufis, S&P's primary apartment REIT analyst. "In 2008, we expect continued moderation but positive rent growth," he says. "From a fundamentals standpoint, we've seen moderation in rent growth and NOI growth."

Green Street Advisors, based in Newport Beach, Calif., also studies the REIT market and sees positive growth potential. The firm projected that revenue growth would hit 3.8 percent coming into the year, but those projections have since fallen back to the 3.5 percent mark.

"Apartment REITs overall this year should still achieve positive revenue growth, even in the face of a mild recession," says Haendel St. Juste, an analyst with Green Street. "Despite a slowing economy and an increased supply of single-family and condo "shadow rentals" in certain markets, the supply/demand picture is still in pretty good balance."

Skoufis sees the for-sale market troubles as one of the biggest boosts to the supply/demand equation. "Homeownership is coming down," he says. "That will benefit the multifamily sector."

Even with a slight recession, St. Juste thinks multifamily will hold up. "Demand will still be driven from household formation, a declining homeownership rate, and Echo Boomer demand," he says. "Even in periods of very weak job growth, new household formations tend to bottom out at around 500,000 per year, a result of an ever-growing population."

All of these factors help the REITs, of course. S&P sees AvalonBay (BBB+/Positive), Equity Residential (A-/Stable), and Camden (BBB+/Stable) as setting the pace for the multifamily sector, though it recently downgraded both AvalonBay (for its large development pipeline) and Equity (for not having debt protection).

Although BRE Properties (BBB/Stable), Essex Property Trust (BBB/Stable), Post Properties (BBB/Credit Watch) and UDR (BBB/Stable) were at the bottom of the REITs list, Skoufis says they're still fairing well compared to other sectors.

"They're solidly investment grade," Skoufis adds.

Amplifying this point, the National Association of Real Estate Investment Trusts (NAREIT) reported that Residential REITS were the second best performing REIT sector in the first quarter of 2008.

Apartment REITS, which comprise most of the Residential REITS (the balance is composed of manufactured housing REITs), were up 12.29 percent year-to-date. Residential REIT returns increased 11.20 percent in the first quarter. These are impressive figures compared with the Dow Jones Industrials which was down 7.55 percent to start the year.

Apartment REITs' total returns compare favorably with the those of the U.S. REIT market, which was nearly flat for the first quarter of 2008. (The FTSE NAREIT All REIT Index was down 0.42 percent, while the FTSE NAREIT Equity REIT Index was up 1.40 percent.)
By contrast, other market benchmarks dove into negative territory to start the year.

Other than the Dow Jones Industrials, the S&P 500 was down by 9.44 percent, the Russell 2000 dropped by 9.90 percent and the NASDAQ Composite was lower by 14.07 percent.
REIT performance accelerated in March, as the FTSE NAREIT All REIT Index was up 3.88 percent in the month.

“The sub prime mortgage crises did not have a direct negative impact on apartments but did in fact have an indirect positive impact,” says Brad Case, VP of research and industry information at NAREIT. “All those people who could not afford to buy homes had to start renting apartments.”

This, Case believes is the reason Apartment REITS are a safe way to play the real estate meltdown.

“Fundamentals in the REIT industry are pretty strong and there is no real sign that they are likely to weaken anytime soon,” Case concludes.

For more, see "Even Ben Stein Likes REITs".

Click here for an updated list of Apartment REITs, including current yields

Click here for an updated list of REIT dividends being paid in stock, including current "yields"



apartment reits, reits, reit

Back in 2005, executives at Camden Property Trust (CPT), a REIT specializing in large apartment complexes, were worried. Why had they been unable to maintain their average occupancies at historical levels? They fanned out across the country to talk with CPT property managers, who complained of having to turn down the credit of applicants for $700 a month apartments when home lenders across the street were providing the same questionable applicants with mortgages worth $350,000.

The CPT executives were suspicious about the mortgage credit checks, but they were unable to confirm their hunch. Numerous observers had been monitoring the record growth in the U.S. homeownership rate, including the Boston Globe which published a 2005 article entitled The Dark Side of Subprime Loans. The article was suspicious about “so-called subprime loans” but until the cracks in that market began to appear last spring, there was no way to know for sure what was happening.

What everyone could see, however, was that the U.S. rate of homeownership had reached historically high levels. It was at about that time that both outgoing Fed Chairman Alan Greenspan and incoming Fed Chairman Ben Bernanke both played down the possibility of a so-called “housing bubble”. As it turned out, there was a bubble, encouraged not only by subprime mortages, but also by numerous government policies that encouraged homeownership.

Not surprisingly, the same census data that showed increasing rates of homeownership also showed increasing levels of vacancies in the nation’s rental unit housing stock. Although still higher than average, the national vacancy rate was far outpaced by above average vacancy rates in the Midwest, where homeownership is more much more affordable and economic dislocations have put pressure on the region generally.

While policy makers across the U.S. crowed about delivering the American Dream to ever greater percentages of Americans, the problem for CPT was more immediate: how do we keep our apartments full so we can grow our earnings? CPT, like many apartment owners, had no choice but to reduce their average rents, offer incentives to renew leases, ask for smaller deposits to protect against property damages, and reduce investments in capital improvements. Cumulatively however, these solutions were not much more than a band-aid in the face of a national stampede to homeownership.

Subprime was not the only reason for the increased levels of homeownership. Well-meaning government sponsored loan programs allowed first time home buyers to purchase homes with little or no equity, and tax laws allowed the deduction of home mortgage interest while providing generous shelters for capital gains. At the same time that the subprime market was starting to unravel however, influential law makers were also rethinking the government’s largesse.

In a New York Times article entitled “Mortgage Trouble Clouds Homeownership Dream”, Representative Barney Frank (D) Massachusetts said that United States policies in recent years had promoted the idea of homeownership too hard and at the expense of rental housing. “I wish people could own more homes,” he said in the interview. “But I also wish I could eat and not gain weight.”

Many academicians agreed. In the same article, Joseph E. Gyourko, Professor of Real Estate and Finance at University of Pennsylvania’s Wharton School of Business asserted that "we went too far. It’s not the case that high homeownership is always good.”

These increasing homeownership trends are clearly reversing, and now may be the best time in years to own Apartment REITs. Not only are secular, long-term demographics supporting improved operating fundamentals, but the havoc in the financial markets has discounted all REIT stocks.

REIT stock prices have typically been a good harbinger of property values. When they trade at or below the value of the underlying real estate, as most are now, they have traditionally predicted weakening property values. However, these times are anything but traditional, and commercial property values now are not directly connected to the wider real estate contagion because they produce reliable monthly income.

These income streams determine how commercial property is priced, and the income for apartment buildings looks strong for several reasons. First, commercial development of new-builds in this cycle has been muted by high construction costs. This limited new supply, combined with strong growth in demand from immigration and the “echo-boomers”, should provide a floor under apartment rents. Add in the thousands of households now returning to the rental pool, and apartment fundamentals have never looked more solid.

In addition to these strong operating fundamentals, the Fed has responded to the liquidity crisis by directly intervening in the government agency securities market. I wrote about this unconventional and rarely used Fed operation in a previous article, which was undertaken in an effort to reduce long term borrowing rates. This Fed action, along with its steep reductions in the discount rate, will also help support commercial property prices.

So far, values have held up. The Mortgage Bankers Association reports that in 2007, defaults in Fannie Mae loans for apartment buildings remained flat at .08%, while 2007 defaults among apartment loans sponsored by Freddie Mac declined to .02%. In fact, despite all the bad news in residential real estate, defaults in the broader commercial property sector remain at historical lows. According to the Wall Street Journal, the delinquency rate on the almost $840 billion in outstanding commercial mortgage backed securities is less than .5%. Lenders, particularly Fannie Mae and Freddie Mac, also remain active in the apartment sector, unlike other commercial property markets where liquidity has dried up.

In this market, making a REIT investment of any kind isn't for the faint of heart, but other well run, diversified apartment REITs worth considering include Avalon Bay Properties (AVB), which has a large development pipeline in high barrier markets and low leverage, and Essex Property Trust (ESS), which also operates in high barrier markets and just announced an almost 10% increase in its dividend. Avoid AIMCO (AIV) which operates in low barrier markets like the Midwest and has relatively higher leverage, and REITs like Post Properties (PSS) which had been relying on condo conversions to drive operating results.

Caveats? A deep recession will impact rents no matter how strong the fundamentals. The “shadow” rental market of foreclosed homes will also put some pressure on apartments, but rental homes do not compete directly with apartments. Most renters are not interested in mowing lawns and shoveling snow, and apartment living excuses them from these kinds of responsibilities.

Also, REITS enjoy favorable taxation treatment at the corporate level, so most do not allow for the 15% tax treatment on dividend income. Accordingly, if you decide to do any buying, it should be done in your 401k or IRA. Consider REITs for capital gains though, and think of the dividends simply as the icing on your subprime cake. Click here for a complete Apartment REIT list, including current yields

Disclosure: None