US equity REITs can be split into two broad categories: traditional and specialty REITs.
The traditional REIT sector is predominantly made up of the "Big Four" sub-sectors: retail, industrial, residential and office. These sub-sectors have performed well since the lows of 2009, but it is specialty REITs that have overtaken the pace at which growth is being achieved by these different sub-sectors of the listed real estate market.
Specialty REITs own and manage a unique mix of property types and collect rent from their tenants in the same way that traditional REIT managers do. The types of properties owned and managed however, differ from that of the "Big Four" sub-sectors. Examples of properties owned by specialty REITs include golf courses, data centres, cellular towers and self-storage facilities.
Market capitalisation and NOI growth
As of 10 March 2017, the retail, industrial, residential and office segments of the market made up around half of the market capitalisation of US-based REITs (which in turn makes up approximately two-thirds of the global listed property market).
Last year (2016), Net Operating Income (NOI) grew by an impressive 7% for all US-based equity REITs, but the "Big Four" only recorded an average of approximately 3% over the same period. This is in stark contrast to the 16% achieved by the specialty sectors.
According to the National Association of Real Estate Investment Trusts’ (NAREIT) T-TrackerŪ results:
- Data centre REITs averaged 27% growth in NOI
- Self-storage achieved an attractive 16%
- Infrastructure REITs garnered 15%
- Health-care came in at 12%
Although these four sub-sectors only represent 30% of total US REIT NOI, this group claimed over 60% of the total NOI growth for 2016.
Factors contributing to growth differences
The majority of traditional property REITs in the US currently find themselves experiencing the mature phase of the industry cycle, to a greater degree than their non-traditional peers. Growth from accretive acquisitions are more difficult to come by, particularly at the volumes required to really move the needle.
Specialty REITs tend to be smaller and more nimble than traditional REITs, and are benefiting from growth off a relatively lower base.
Another factor that is playing into the hands of specialists is demand. For example, data centre REITs appear to be riding the wave of rapid growth, and in many cases cannot build their facilities fast enough to keep pace with the insatiable demand for their services.
The operating trends are not as exciting when one takes a look at the apartment and hotel sectors (more traditional property types). In addition to the lukewarm demand, pockets of oversupply in some areas have led to a decline in rental growth expectations for 2017. One of these pockets is Manhattan, where last month (February), rentals declined for the first time in four years across all sizes of apartments. This after a construction boom brought more buildings online.
A market of specialists
Diversified REITs make up roughly 6% of US REIT market capitalisation. A diversified REIT is a company that owns a variety of property types and has over time become a smaller and smaller part of the market.
This has happened as REIT managers, by-and-large, focus on their core competencies and manage portfolios of similar types of assets for strategic and tactical reasons. Often a particular skill set is required to effectively manage a specific property portfolio, and keeping within one’s area of expertise rather than "diworsifying" (borrowing from the great Peter Lynch) allows the REIT manager to extract maximum value from their assets.
When managing a facility like a top class data centre, "know-how" is paramount. The sheer scale of these properties, the cooling requirements, back-up electricity infrastructure and Fort-Knox-like security make this sub-sector of property unlike any other. Within a sub-sector however there are always winners and losers. For example, a data centre REIT like CyrusOne is able to build their facilities at a lower cost than their competitors, giving them a significant competitive edge. They are also best-in-class when it comes to the time it takes to bring a new facility to the market.
Sub-sector picking then, only gets an investor so far - a deeper understanding of the individual players is essential. At Reitway Global, we are benchmark agnostic, Growth at a Reasonable Price (GARP) stock pickers. We are experienced at picking growth stocks and have a strong track record investing in specialty REITs.
Reference: "Specialty REITs Eating More of the Pie" by David Dent (www.cpexecutive.com)
Investment Specialist at Discovery Invest
Mark graduated with a Business Science Degree from the University of Cape Town in 2007. He then joined Sharenet, during which time he also completed his B.Com Honours through UNISA. Mark has helped to build, launch and manage derivative and share trading brokerage businesses. He is also a JSE Registered Securities Trader, and has worked on the trading desk at Sharenet. After seven-and-a-half years at Sharenet Mark then moved to Reitway Global (a specialist Global Listed Property Fund Manager) where his passion for property was further kindled. Mark currently works for Discovery Invest as an Investment Specialist on their Investec Managed fund offering. He has over ten years of experience in the equity and asset management sector and can be reached at: email@example.com
The views and opinions (where expressed) in this article are those of the author and do not necessarily reflect the official policy or position of Discovery Invest.