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REIT stocks' performance good sign for commercial real estate

April 11, 2010 2:19 am

IN a now-famous op-ed in the Oct. 16, 2008, edition of The New York Times, Warren Buffett urged investors to buy stocks before the economy recovered.

"If you wait for the robins, spring will be over" is how Buffett phrased it.

Investors in commercial real estate seem to be taking Buffett's advice to heart.

The headlines for commercial real estate have been pretty lousy of late in the U.S. and locally. Vacancy rates are hitting new highs, and rents are falling as landlords are forced to negotiate with their tenants.

Many worry that commercial real estate is the "next shoe to drop" in the multi-year financial crisis, and the resulting damage to bank balance sheets could lead to more failures and sluggish lending.

But in the midst of that environment, real estate investment trusts (REITs) have been among the best-performing stocks of late--suggesting that investors believe better days are on the horizon.

The Vanguard REIT Index Fund, which owns all of the biggest U.S. REITs, is up about 13 percent since March 1, nearly double the return of the Standard & Poor's 500. The REIT fund has doubled in the past year, compared with a roughly 40 percent return for the S&P.

Of course the better return is partly due to the fact that REITs fell more during the heart of the financial crisis. And it's possible that investors are overly zealous about the prospects for REITs. One person involved in commercial real estate locally told me he thinks REITs have simply been pulled along by the broader stock market, and that he has seen no real improvement in the sector's performance.

But two other people in the area think there is good reason for the rise in REIT stock prices, though they differ on what's behind the surge (which shows nobody really knows exactly why stock prices move).

One said stabilizing employment numbers and improved consumer confidence should help fill now-vacant office and retail space, and that added cash flow will help stave off foreclosures and distressed sales.

Another said REITs are now acting as de facto banks, raising capital that is being used to purchase quality real estate that smaller investors often can't buy due to a lack of financing.

REITs also benefit from a high yield during a time in which money-market funds pay out close to zero and numerous companies have slashed their dividends.

REITs can avoid corporate taxes if they meet numerous rules, including paying out most of their taxable income as dividends to investors. The Vanguard REIT fund pays close to 4 percent annually.

Wall Street Journal columnist James Stewart had a piece in Wednesday's edition in which he urged investors to consider REITs despite the recent run-up.

"Real estate belongs in every diversified investment portfolio," he wrote.

Staff reporter Bill Freehling writes this weekly column on business, personal finance and investing. He can be reached at 540/374-5405 or
Email: bfreehling@freelancestar.com.