A look at how accurate predictions proved to be.
If my thought process at the beginning of the year was ‘Buy the Discounts’, the corollary was to ‘Sell the Premiums’. Doing the latter would have saved you a lot of money, doing the former wouldn’t have cost you much. I write just after the two largest ‘old REITS’, Landsec and British Land, have released their full-year figures. Both produced above consensus numbers and both management teams offered positive views going forward, subject to the normal caveats that we hear these days about the economy, cost inflation, bond yields and every conceivable bump in the road. Trading on 30% discounts or thereabouts, these are not expensive shares and my January view that they would be among the best performing REIT shares this year is being borne out.
As for selling expensive REIT shares, well, to call it a rout may be too strong, but it’s been pretty ugly to put it mildly. Segro produced absolute knockout numbers back in February, which went some way to justifying the fact that the shares traded at an all-time high of nearly 1450p at the start of the calendar year. They now trade in the low 1100s, having been lower. The announcement by Amazon that it may have over-expanded its physical estate (in the US) has prompted the sell-off and that sell-off has dragged down all REITs exposed to the logistics market. Given that said companies amounted to about 30% of the REIT sector by market capitalisation, then sector performance year-to-date has been weak, falling by 11% compared to the FT All Share Index down by just over 1%, the latter in a display of remarkable resilience.
“Notable fallers have been the hitherto super-expensive self-storage operators”
It’s not just the logistics-owning REITs that have been hit. Other notable fallers have been the hitherto super-expensive self-storage operators, with Big Yellow and Safestore down by 25% or so this year on fears of the impact of lower consumer discretionary expenditure and the simple fact that the shares were just too expensive to begin with. This has all been pretty dramatic stuff, but it’s worth pointing out that what has been given back over the past couple of months is only a part of what gains these REITs have had over the past several years.
Nonetheless, premiums have become discounts and as I’ve written many times, trees never have grown to the sky. Part of the reason for the fact that these ’growth’ REITs have reached somewhat exotic levels was the fact that the ’value‘ shares had little to offer, with mixed asset portfolios often comprising retail assets that were still falling in rental and capital value terms, and London offices where there is a near 10% vacancy rate and the WFH dilemma has still to be resolved. I’ve always liked to turn those theories on their head and wonder what would happen to these ’value’ companies if it emerged that retail was reaching its nadir and demand for London offices was to be maintained.
“Owners and developers of the best quality space with EPC ‘A’ or ‘B’ rated space may well make hay”
Well, guess what? There is evidence emerging that while retail is clearly oversupplied and rents will continue to reset at lower levels, this pace of decline is moderating for some and even improving for others, and yields are steady at the lower levels. As far as London offices are concerned, then BLND reported its strongest level of leasing in over 10 years, with more in the pipeline, and rents at least 5% ahead of the valuers estimates. Landsec reported not dissimilar success in a “record leasing” year at 4% ahead of rental estimates. The pure London exponent that is Great Portland also recorded a record year for office leasing, at 10% above rental estimates and noted that the capital is facing an “acute shortage of new office space” as customers (as tenants are now called) continue the flight to quality. Doesn’t exactly sound like a bad prognosis to me.
The second-hand vacancy rate is indeed worrying, but only for the some landlords, and while such space will need to be ‘re-imagined’, owners and developers of the best quality space with EPC ’A‘ or ’B‘ rated space may well make hay, or certainly garner what tenant demand that there is. In short, nothing has changed my view for the year that cheap shares will outperform expensive ones.
While this debate unfolds in the equity market, the sector has also had to contend with some corporate activity. Among the cheapest shares at the start of the year was Mckay, a small but perfectly formed company that effectively put itself up for sale as it was persistently languishing on an unjustified discount. Workspace has bought it at just below NTA. Then there has been merger/takeover activity with Shaftesbury and CapCo proposing to get together to form a major West End retail-focused business, and LXi and Secure Income REIT potentially merging to form a long-duration income generator. The drivers behind such moves are various, but size is increasingly important to investors seeking many things, with liquidity in the shares high on the list.
There remains capital around, notably from private equity investors and family offices. While the direction of travel in sovereign and corporate bond yields does not necessarily appear propitious for property yields, so far there has been no adverse movement and in certain sectors quite the opposite. That private equity capital needs to be deployed, and with big discounts still prevailing in the sector and property market conditions holding up, then I continue to rather fancy the sector, notwithstanding the performance year to date. As I wrote last quarter, buying shares on discounts in anticipation of corporate activity is a fool’s game, but buying them on fundamentals is eminently sensible.
