Smooth Ride to Continue for Equity REITs in 2014

By Steven Marks, Head of U.S. REITs, Fitch Ratings: Fitch Ratings expects U.S. equity REITs will continue to have strong access to capital and solid liquidity.
Steven Marks, Fitch

Steven Marks, Fitch

The first six months of 2014 have been smooth sailing for U.S. equity REITs, with little change likely for the second half of the year.

Fitch Ratings expects U.S. equity REITs will continue to have strong access to capital and solid liquidity. Additionally, property-level fundamentals should improve moderately across most asset classes.

Multi-family REIT fundamentals should remain the strongest and continue on a positive trajectory for 2014, though the pace of growth is slowing. Fitch expects most multi-family REITs to continue developing in select markets with strong demand drivers. Additionally, industrial REITs will develop both speculative and build-to-suit properties for tenants under long-term leases.

Most retail, industrial and central business district (CBD) office REITs should have modestly positive same-store net operating income growth. The suburban office sector will face challenges in maintaining margins when considering recurring capital expenditures despite improvements in top-line same-store growth. The increase in suburban office build-to-suit activity is indicative of REITs having strong relationships with prospective tenants and tenants’ lack of adequate product options. REITs in other property types will likely ramp up development spending at a measured pace in situations where the REIT has generated strong pre-leasing activity, such as in CBD office markets.

Outside the multi-family sector, most REITs have a modest cost-to-complete for their development pipelines. This is indicative of lower-risk growth strategies, good liquidity management and fundamentals that generally do not justify speculative development.

Despite this activity, development exposure across the REIT universe is substantially less than that seen during the peak period of 2007-2008. Moreover, development exposure is not likely to present itself as a credit concern for REITs for the remainder of this year.

U.S. REITs are not likely to increase leverage from current levels or meaningfully de-lever during 2014. Nearly all proceeds from follow-on common equity offerings will likely be used for development or paired with acquisitions or other growth opportunities on a leverage-neutral basis. Any de-levering will likely be organic as companies grow their recurring operating EBITDA and retain cash flow. Stock buybacks should remain modest but represent the largest threat to maintaining stable leverage metrics.