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U.S. Real Estate Securities
As of March 31, 2012
We would like to share with you our review and outlook for the U.S. real estate securities market as of March 31, 2012. For the quarter, the FTSE NAREIT Equity REIT Index had a total return of +10.8%, compared with a +12.6% return for the S&P 500 Index.
INVESTMENT REVIEW
U.S. REITs had solid gains in the first quarter amid strengthening fundamentals for commercial real estate and an improving outlook for the U.S. economy. Employment data was particularly encouraging, and upbeat comments from homebuilders sparked hopes that the housing market could soon turn a corner. Europe also provided some positive news, as authorities negotiated a controlled restructuring of Greek debt and provided additional liquidity to European banks, reducing the potential threat to the global financial system.
With the macro backdrop turning more positive, volatility subsided and investors showed an increased appetite for risk across asset classes, sectors and companies. Traditionally defensive assets such as Treasurys and utility stocks struggled, while cyclical sectors advanced, led by a sharp rebound in beaten-down bank stocks. Consistent with this trend, REITs saw a wide divergence of returns in favor of cyclical property types and companies with lower-quality assets.
Economically sensitive sectors generally outperformed
All property sectors advanced during the quarter, led by the industrial sector, which returned +23.6%(1) in the index. Its largest constituent, ProLogis, reported solid revenue growth due to occupancy gains, including surprising strength in its European assets. Hotels (+13.5%), arguably the most economically sensitive property type, also outperformed.
Owners of regional malls (+15.2%) and shopping centers (+14.9%) had strong returns amid better consumer sentiment and jobs growth, with Class B and C property owners such as Pennsylvania REIT benefiting the most. Office REITs (+10.7%) were mixed, characterized by stronger-than-expected demand in specific markets, including the West Coast (technology and life sciences) and Manhattan (media and technology).
Defensive property sectors underperformed, including health care (+2.3%) and self storage (+6.6%). Apartment REITs (+8.5%) also lagged the index, as generally good earnings reports failed to meet the market’s high expectations. Improving sentiment in the single-family housing market also weighed on the sector due to worries of softer demand for rental units.
Property transactions demonstrated access to capital
U.S. REITs continued to take advantage of their ability to raise capital at historically low rates via equity and debt offerings. This advantage was on display in March with Simon Property Group’s acquisition of a 29% stake in Klépierre, a French retail landlord majority-owned by BNP Paribas. Simon was able to move quickly on this long-term growth opportunity, funding the transaction within 24 hours of the announcement through $1.3 billion of common stock at $137 per share (near then-current levels) and $1.75 billion of unsecured debt, issued at a remarkable 3.4% for a 15-year average term.
Lower-quality REITs also saw improved access to bank financing during the quarter. As credit risks diminished, banks eagerly sought to add more commercial real estate to their loan portfolios, offering financing to a wider spectrum of property companies. This offered a sharp contrast to the tighter lending environment of 2011.
INVESTMENT OUTLOOK
We are encouraged by the recent trend of U.S. economic data showing measured improvement, although our expectation for GDP growth in 2012 remains modest at around 2%. With funding costs likely to remain low and demand showing signs of strengthening, we believe U.S. real estate fundamentals will continue to gradually improve in 2012, supported by a scarcity of new supply in most markets. We believe these fundamentals will help support growth in asset values and dividend distributions for the public real estate sector.
Within this constructive framework, we believe the U.S. recovery is not without risks, reflected in the cautious guidance provided by REIT managements in the first quarter. Our global investment team continues to monitor macroeconomic risks, including slowing growth in China and a base-case scenario of a recession in most of Europe. We are also cognizant of political uncertainty in an election year, particularly with regard to financial services and health care, as well as the Washington, D.C. office market.
We have a very favorable view of specific office markets, including life sciences, technology and media, as well as New York offices broadly. We also continue to like prime retail and self storage owners, which are seeing very strong fundamentals. In contrast, we remain cautious toward health care properties and secondary retail. We have also reduced our allocation to apartment REITs on the margin following their strong run in 2011. However, we see opportunities in certain apartment markets, which we believe will benefit from continued positive employment trends in the 20- to 30-year-old demographic.
(1) Sector returns as measured by the FTSE NAREIT Equity REIT Index.
Past performance is no guarantee of future results.
The performance information in the preceding commentary does not reflect the performance of any Cohen & Steers Fund. Fund performance information is available through the link or links below.
Cohen & Steers Realty Shares Performance
Cohen & Steers Realty Income Fund Performance
Cohen & Steers Institutional Realty Shares Performance
Please consider the investment objectives, risks, charges and expenses of any Cohen & Steers fund carefully before investing. A prospectus containing this and other information can be viewed by clicking here or may be obtained by calling 800-330-7348. Please read the prospectus carefully before investing. Cohen & Steers open-end funds are distributed by Cohen & Steers Securities, LLC.
The views and opinions in the preceding commentary are as of the date of publication and are subject to change. This material should not be relied upon as investment advice, does not constitute a recommendation to buy or sell a security or other investment and is not intended to predict or depict performance of any investment.
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