Rising Rates: Biggest Question Mark for U.S. REITs in 2014

By Steven Marks, Head of U.S. REITs for Fitch Ratings: U.S. equity REITs are primed for a stable outlook in 2014, though the likelihood of rising interest rates is an important factor that Fitch Ratings will be watching closely.

Steven MarksU.S. equity REITs are primed for a stable outlook in 2014, though the likelihood of rising interest rates is an important factor that Fitch Ratings will be watching closely.

Interest rate increases brought on by stronger economic growth are a definitive positive for REITs. Conversely, a stagflation scenario of higher rates would almost certainly be a detriment for REITs.

A more gradual increase in interest rates would clearly be preferable for property sectors with longer lease tenors, such as net lease, healthcare, retail, office and, to a lesser extent, industrial. REITs with more fixed-rate debt on their balance sheets would be better positioned to withstand rate increases than those with decidedly more floating-rate debt. Beyond the above, the impact of higher rates is decidedly less clear.

Taking the concerns over rising rates into account, Fitch maintains its stable outlook for U.S. equity REITs. This is primarily due to expectations of continued solid liquidity driven by good access to capital, moderately improving property-level fundamentals across most asset classes and lower-risk strategies. These positive elements are offset by expectations of high, albeit relatively unchanged, leverage and a continued, slow economic recovery.

The picture is consistent across all property types with respect to outlooks. Fitch is maintaining its stable rating outlook for U.S. multi-family REITs due largely to moderating operating fundamentals and evolving access to capital. The same outlook holds true for office REITs even as property fundamentals have been slow to recover.

The rating outlook for U.S. industrial REITs for 2014 remains stable due in large part to the economic backdrop, which is laying the groundwork for improving warehouse performance. The stable outlook is also likely to continue for retail REITs as property fundamentals have recovered quite nicely over the last year.

Lastly, the rating outlook for healthcare REITs is stable for 2014. Beneficial long-term demographic trends are helping support demand for space in healthcare properties, which should continue for the foreseeable future.