Paying dividends is kind of important for a REIT, but some of them seem to have forgotten that lately.
This is my 40th year following the sector as analyst, salesman and occasional corporate adviser. When I first started there were just four companies that really mattered. MEPC bit the dust after serial underperformance 20 years ago, but Landsec, British Land and Hammerson have survived, although rarely have their fortunes been so low as today. Back then two of them were constituents of the FT30 index, and the quoted sector represented about 5% of the whole equities market. Now it represents barely 1.5%, and Segro has a market capitalisation that just exceeds the current market caps of Landsec, British Land, Hammerson and the take-out value of MEPC combined! Staggering.
The trend continues, with Segro outperforming the equity market by over 20% again this year while Landsec and British Land have underperformed by around 30% – and Hammerson by over 80% after its hugely dilutive £500m rights issue, launched to buy it some time in the hope that retailers might stop going bust and start paying some meaningful rent at some point in the future. No surprise that all three companies have seen new CEOs take the tiller this calendar year to see if they can make a better fist of it.
It gets boring saying it, but beds, sheds and meds were, are and will continue to be where you need to be invested. This is owing to one very simple investment rule: all in these three sectors (bar the student accommodation providers) are paying growing dividends, which is kind of important if you wish to be a REIT – a sort of governing principle, if you will. And while that might seem obvious, it seems a lot of REITs rather forgot it. What we at Stifel call ‘income-producing companies’ trade on average at a 24% premium to their NAVs while what we call ‘capital-cycle focused companies’ trade at an average 44% discount to NAV – which is worse than they did during the global financial crisis. Talk about a wasted decade!
It gets boring saying it, but beds, sheds and meds were, are and will continue to be where you need to be invested
As would be expected when certain share prices get seriously bombed out, the market starts to think about corporate activity and possible takeovers. Brookfield now has a 9% stake in British Land, Lighthouse Capital has a 20% stake in Hammerson and fully supported its rights issue, KKR recently snaffled 5% of Great Portland, Tristan Capital took 13% of McKay Securities, Starwood owns 20% of RDI, and of course CapCo bought 26% of Shaftesbury.
Now, I can think of many occasions when upon the announcement of any of these stakes being declared, not only the target company’s shares but often the whole sector would have moved sharply upwards. Today the market shows a flicker of interest and then regards any immediate share price strength as another selling opportunity. In other words, the market doesn’t believe any one of these deals will lead to a bid at a meaningful premium to where the shares currently trade. Given that none of the above investors is making money on its stake, it just shows how negative the market is to many stocks in the sector.
The quid pro quo is that the equity market is very supportive of those companies trading at a premium to NAV, which have access to equity as a result and can acquire long-leased income-producing assets within the beds, sheds and meds theme. This year more than £2.5bn of fresh equity has been raised. Of that, the Hammerson £500m begging bowl was the only one reflecting balance sheet duress; all the others were for growing the business. And all are involved in either sheds/logistics, including supermarkets (still the most undervalued asset class in the spectrum) and self-storage, meds (doctors’ surgeries), or beds, as in student accommodation and social housing or care provision.
I could have highlighted the same trends over any of the last few years. Something will give in the end, of course – it’s the nature of markets – but I struggle to find the visibility to say it will be any time soon. It’s a racing certainty that one of the companies that has been subject to stake-building will eventually succumb to a takeover, albeit at below its stated NAV, and I have my preferences on which, but I’ll keep those thoughts to myself, thank you.
The one recent feature of the direct market that I find fascinating – because this is something rarely seen – is competitive bidding for certain central London office assets at a time of rising vacancy and almost certainly a decline in rental values. Falling rents and falling yields are meant to be mutually exclusive, but it has happened before, most notably in 1992-93. Back then, over-renting was extreme, with tenants who signed a lease in the late 1980s paying £70+ per sq. ft against a market rent in 1992 of about £20 per sq. ft. However, there was heavy overseas bidding for the £70 per sq. ft leases because sterling had crumbled, yields were high, and the buyer was then buying often a 20-year income stream at around 7% at a time when bond yields were falling sharply. That game all stopped dead when the Fed raised interest rates in January 1994.
This time over-renting is nothing like it was then, although a current London office vacancy rate of 9% and rising does not bode well for rental values, and bond yields are at record lows and in some cases negative. It’s a case of getting any income where an investor can, taking a calculated punt on owning a physical asset in perpetuity rather than receiving the nominal value back when the bond reaches redemption, and believing (as I do) that there is scant chance of the Fed, or any other central bank, doing anything to interest rates in the current investment time horizon. Déjà vu?
