REIT Earnings Preview: Animal Spirits Revived?

Real Estate Earnings Preview

Real estate earnings season kicks off this week, and over the next month, we’ll hear results from more than 175 equity REITs, 40 mortgage REITs, and dozens of housing industry companies, which will provide key insights into how the real estate industry is adapting to the shifting interest rate regime. This report discusses the major high-level themes and metrics we’ll be watching across each of the real estate property sectors this earnings season. Below, we compiled the earnings calendar for equity REITs and homebuilders. (Note: Companies that have not yet confirmed an earnings date are in italics. We’ll update the chart in real-time for members linked here.)

Last earnings season in October occurred at “rock bottom” for the real estate sector, with the Equity REIT Index at its lowest level since May 2020 as benchmark interest rates hovered around multi-decade highs following several months of stubbornly persistent inflation data and hawkish Fed rhetoric. Even the most well-capitalized public REITs with modest debt levels were unable to escape the gravitational force of the “higher for longer” narrative, while the mere survival of many hundreds of highly-levered private market players was in significant doubt as the refinancing clock ticked ever-louder. Sentiment and macroeconomic conditions have shifted significantly in the past three months, fueled by several months of encouraging inflation data pointing once again towards a “soft landing” for the U.S. economy and a resulting pivot in central bank tone and narrative from “how many rate hikes” to “how many rate cuts?”

Real estate equities – the sector with perhaps the most to gain from a moderation in inflation and normalization in Fed monetary policy – enter earnings season with some wind in their sails after a rather dismal eighteen-month-long stretch where any sense of forward headway seemed illusive. The Vanguard Real Estate ETF (VNQ) rallied nearly 30% from its lows in late October through the end of 2023, but has given back some of these gains in early 2024 amid a modest rebound in benchmark rates. At 4.10%, the 10-Year Treasury Yield is nearly a full percentage-point below its October 2023 high of 4.99%, but has bounced higher from its late-December lows of 3.79%. Many of the most beaten-down REIT sectors – typically those with the highest levels of interest-rate sensitivity – have led the rebound over the past quarter, underscored by average gains of over 30% from Office and Mall REITs.

Before diving into the specific sector-by-sector metrics we’re focused on this earnings season, we discuss the four higher-level themes that we’re focused on this earnings season:

1. Private-Market Valuations & Potential Distress
2. Initial 2024 Guidance & Expense Outlook
3. Acquisition & Consolidation Opportunities

1) Private Market Valuations & Distress

While public REIT valuations respond almost instantaneously to shifts in sentiment and changing macroeconomic regimes, private real estate markets take far longer to fully reflect these “real-time” market conditions, and there’s likely more downside and distress to come over the next several quarters in the more-highly-levered pockets of the industry. Even with the sharp retreat in rates over the last several months, the 10-Year Treasury Yield remains at levels that are nearly 2x above the 2.20% average from 2015-2021 when much of the outstanding debt coming due over the next few years was initially financed. More than a year after the public REIT sector saw its initial 25%+ drawdown this cycle, Green Street Advisors’ data shows that private-market values of commercial real estate properties have now “caught up” with these real-time conditions. Green Street’s Commercial Property Price Index shows that real estate values are nearly 22% below the peaks last April, dipping to their lowest levels since late 2015.

For debt-dependent entities – of which there are many in the private real estate space, and a handful in the public area – conditions have merely gone from highly restrictive to moderately restrictive. As noted in our State of the REIT Nation report, the business models of many private equity funds and non-traded REITs were not designed for a period of sustained 4%+ benchmark rates or double-digit declines in property values. Capitulation from debt-burdened private portfolios should eventually create consolidation opportunities for well-capitalized REITs, and we’re listening for commentary on whether the latest surge in rates has started to shake anything loose. Fitch reported last week that its measure of US CMBS delinquency rates rose to 2.07% in December, up 49 basis points from last year. Trepp reported a more significant rise in delinquency rates, with its measure of US CMBS delinquency rates rising to 4.51% in December, up 147 basis points from last year.

2. Initial Full-Year 2024 Outlook

Property-level fundamentals have remained surprisingly resilient across most property sectors during the Fed’s aggressive rate-hiking cycle, but higher interest rates have been a drag on corporate-level growth metrics during this period. While same-store NOI is expected to rise about 5% for the full-year, updated guidance last quarter indicated that the REIT composite will report roughly 1-2% average FFO growth for full-year 2023 – a slowdown from the 12% earnings growth in 2022, but well above the initial 2023 guidance which implied a mid-single-digit FFO decline. Last quarter, earnings “misses” and downward earnings revisions were driven predominately by elevated debt servicing expenses, underscoring the continued challenges facing more highly leveraged real estate portfolios from the higher rate environment. We’re keyed in on these REITs’ initial 2024 guidance outlook, especially the assumptions for same-store expense growth and interest rate expense.

3) Acquisition & Consolidation Opportunities

Are the ‘animal spirits’ coming back? Access to capital is also a focus amid expectations that capitulation from debt-burdened private portfolios will create consolidation opportunities for well-capitalized REITs. We saw a revival of M&A activity in 2023 from within the public REIT sector itself, with a record-setting quantity of public REIT-to-REIT mergers. We expect to see additional REIT mergers over the coming quarters, but conditions are also becoming more ripe for these REITs to reach across into private markets, and finally reverse a half-decade period of REIT privatization. That said, there are still pockets of “dry powder” available to several private equity firms, underscored by the privatization last week of single-family rental REIT Tricon Residential (TCN) by private equity funds of Blackstone (BX), which followed a handful of asset sales from Blackstone’s entities in 2023 into the public markets. For public REITs, a rebound in equity valuations concurrent to a continued moderately restrictive interest rate environment would be an ideal environment for REITs to grow externally through private market acquisitions.

Office & Hotel REIT Earnings Preview

Office: Among the most obvious pockets of looming distress, office REITs have rebounded more than 30% since late October as the easing of rate pressures has coincided with data showing a modest rebound in office fundamentals in late 2023 as the long-awaited “return to office” has gathered a bit of steam. JLL (JLL) reported that office leasing activity rebounded 14.1% in Q4 compared to Q3 – the highest level since Q2 2022. On the supply-front, groundbreakings fell to the lowest volume in decades in Q4, with just 1.2M SF of starts. Additionally, a record volume of office inventory was converted to other uses, removing 18.8M SF of space in 2023. Debt service expenses has remained the primary culprit behind the wave of recent loan defaults on coastal office properties from private equity firms, but the question remains whether there’s any value in being the best house in a bad neighborhood or whether the downward inertia and spiraling effect on prices eventually drags even the better-capitalized players into the sinkhole.

Hotels: On the other side of the spectrum, the U.S. hotel industry posted a record-setting year of operating performance in 2023 as the post-pandemic rebound in travel demand has been unabating in the face of lingering recession concerns. Hotel data provider STR reports that industry-wide Revenue Per Available Room (“RevPAR”) was roughly 12% above 2019 levels during the fourth quarter, as a roughly 18% relative increase in Average Daily Room Rates (“ADR”) offset a 4% relative drag in average occupancy rates. TSA data also shows a record-setting quantity of travelers passing through its checkpoints in recent months – rising to roughly 105% of 2019-levels in Q4 and accelerating further in early 2024. Business and group demand has marginally improved, offsetting some moderation in leisure demand, while international travel demand has started to provide a tailwind in the back-half of 2023. Dividend policy will be a focus, as these REITs have been the among slowest to fully restore their dividends to pre-pandemic levels.

Residential Real Estate Earnings Preview

Apartments: The state of the U.S. housing market will be a critical focus throughout earnings season – the industry that feels perhaps the most direct effects from shifts in interest rate policy. Following two years of record-setting rent growth, residential rents decelerated in 2023 alongside a broader cooling of inflationary pressures, with multifamily rents seeing a particularly sharp cooldown amid supply headwinds. The wave of pandemic-era development – started at a time when rents were rising double-digits – resulted in a record-year of new deliveries in 2023 with similarly elevated supply levels. The pundit-predicted rental market “crash” has remained elusive, however, as demand has stayed surprisingly robust, driven by the combination of resilient job growth, homeownership unaffordability, favorable demographics, and elevated inbound immigration. We’ll be closely watching rent growth metrics on new and renewed leases, commentary on supply conditions, and for indications of any appetite for external growth via private market acquisitions following a decade of leaning on new development to fuel external growth.

Single-Family Rentals: Supply growth has remained far more contained on the single-family side, which has kept rent growth more buoyant in recent quarters. With rents likely to settle in the “inflation-plus” range of 3-5% in 2024, expenses will be the “wild card” – especially as it relates to insurance and property taxes. Double-digit percentage increases in insurance premiums and property taxes have become the recent norm for property owners – driven primarily by a “catch up” effect to reflect the roughly 25% increase in home values over the past two years. The brief period of negative home price appreciation in 2023 and tighter credit conditions quickly neutralized the pockets of speculative housing market activity – including the “fix-and-flips” and highly-levered short-term rental (“STR”) startups that were beginning to fizzle in 2021 and 2022, and the more challenging operating and financing conditions should give an easier pathway to institutional operators to accretively add to their portfolios. In addition to rent growth metrics, we’re interested in commentary about these external growth prospects – specifically, whether these REITs are beginning to see any pockets of private-market distress that could be ripe for the picking – especially in light of the privatization of Tricon Residential by Blackstone earlier this month.

Homebuilders: It’s all about rates: the U.S. housing industry appears likely to thaw from its deep freeze induced by historically aggressive monetary tightening following a two-year industry recession. Mortgage rates climbed to three-decade highs at the peak in late 2023 – resulting in a slowdown in Existing Home Sales to their lowest level since 1995, but have pulled back to levels that have begun to bring some buyers back into the fold. Higher mortgage delayed – but not permanently altered – the existing secular fundamentals supporting the single-family market: a “lost decade” of single-family construction ahead of a wave of demographic-driven demand. Builders have a high bar to meet, however, following their incredible rally of nearly 90% in 2023. We’re focused on net orders – expecting a modest positive inflection this quarter after roughly two years of year-over-year declines – along with cancellation rates, and gross margins. With builders no longer trading with deep discounts, further upside will require operational execution.

Manufactured Housing: Following a record-setting streak of nine consecutive years of outperformance over the broader REIT average, manufactured housing REITs underperformed for a second-straight year in 2023 as interest rate-related headwinds were compounded by concerns over “climate risk” exposure and the effects of a post-COVID demand normalization in the recreational vehicle and marina business segments. Both of the major MH REITs have also faced recent scrutiny for company-specific issues. For Sun Communities (SUI), its ill-timed international expansion into the UK last year has proven to be a major strategic blunder. For Equity LifeStyle (ELS), an accounting issue disclosed this week will need to be addressed. Both REITs gave preliminary 2024 guidance last quarter, showing ongoing strength in their core MH business, but the “wild card” will be the RV segment, which has floundered in recent quarters after several years of robust growth.

Self-Storage: Self-Storage REITs delivered incredible growth early in the pandemic driven by surging housing market activity, but have been victims to their own success of late amid a supply-driven cooldown. Robust double-digit rent growth and relatively low operational barriers to entry prompted a wave of new development, with a roughly 12% expansion in total supply expected between 2022 and 2024. This supply boom – twice the magnitude of the multifamily sector – has reignited fierce “storage wars” between competing facilities, which has led to double-digit dips in new lease rates since mid-2022. Storage demand is driven largely by housing activity – specifically, home sales and rental market turnover – and the recent moderation in mortgage rates has eased some concerns and sparked a rebound for self-storage REITs following a period of weak performance from mid-2022 through late 2023. Interim updates provided earlier this month indicated a stabilization in fundamentals in late 2023, but we’ll be listening for updates on whether the demand rebound can offset the lingering impact of oversupply.

Tech and Industrial REITs Earnings Preview

Industrial: Logistics stalwart Prologis (PLD) kicked-off REIT earnings season last week with a solid report, but conceded that it continues to see “challenges” in some markets as “near-term outsized deliveries are met with still recovering demand.” While PLD noted that market rents have turned negative on a year-over-year basis following three years of record-setting growth, the “embedded” growth within the portfolio remains substantial as leases (typically signed with 3-6 year terms) get reset at market rates. PLD recorded net effective rent growth over the quarter of 74%, and other industrial REITs are likely to follow with similarly impressive spreads. PLD also provided its initial supply/demand forecast for 2024, projecting 250M square feet of net absorption this year, offset by 285M square feet of completions. Vacancy is expected to peak at 6% around mid-year, and then “making a meaningful move” lower beginning in late 2024 as supply growth moderates. We’re interested in hearing whether other industrial REITs share Prologis’ outlook on supply-demand fundamentals, and for any commentary on prospects for private market acquisition activity.

Cell Towers: Cell Tower REITs have been the weakest-performing property sector since the start of 2022 – lagging even the battered office sector – amid a telecommunications industry-wide slump inflamed by tight monetary conditions. Cellular carriers have curbed their capital-intensive network expansion plans in recent quarters following a significant wave of investment and tower equipment upgrades from 2019-2022 to deploy nationwide 5G networks. Apart from the interest rate headwinds, industry headwinds are rooted in the ongoing disintermediation of legacy wireline business segments towards fully wireless deployments and the mounting competition on the two industry juggernauts from within the wireless industry itself via T-Mobile, Amazon, and Dish. Activist investor demands for Crown Castle (CCI) to re-focus its strategy on macro towers – and away from fiber networks – appear to be resonating, and we expect some strategy updates this quarter. Concurrently, American Tower (AMT) has been in the midst of a strategic shake-up, having completed an exit from the Indian market earlier this year. We’re focused on commentary on these strategy shifts and the potential impact on FFO and dividend policy, and expectations for network spending.

Data Center: The top-performing property sector last year, the Data Center REIT rebound has been augmented by reports of “booming” demand for artificial intelligence (“AI”) focused data center chips. Ironically, this AI-wave comes just as Data Center REITs became a trendy “short” idea centered on a thesis of weak pricing power and competition from the “hyperscalers”- Amazon, Google, and Microsoft. A confluence of development bottlenecks – power shortages, higher cost of capital, supply chain constraints, ecopolitics, and NIMBYism – have created a more favorable dynamic and swung the pendulum of pricing power towards existing property owners. Barriers to supply growth combined with AI-accelerated demand should bring some sustained pricing power to a sector long-burdened by near-unlimited supply. With negotiating power tilting back towards landlords, there appears to be enough economic value to be shared, but valuations are pricy. We’ll again watch renewal pricing trends and leasing volumes closely this quarter.

Retail REITs Earnings Preview

Strip Centers: Strip Center REIT fundamentals have improved materially over the past year and continue to be underappreciated in the market as a decade-long “retail apocalypse” narrative has been tough to shake. The combination of near-zero new development and positive net store openings since 2021 has driven occupancy rates to record-highs and allowed Strip Center REITs to enjoy some long-awaited pricing power. These favorable property-level supply/demand fundamentals have translated into impressive double-digit rent growth spreads since mid-2022 and the best earnings “beat rate” of any property sector during that time. Despite several high-profile retail bankruptcies – including Bed Bath & Beyond and Party City – store openings have continued to outpace store closings by about 10% in 2023, led by demand for space in large-format open-air strip centers. We’ll again be focused on leasing spreads and occupancy rate trends – which have been impressive of late – and on updates on re-lease progress at these vacated Bed Bath and Party City locations, in particular. We expect strip center REITs to be leaders in dividend growth in 2024 given their modest payout ratios.

Malls: With recent distress across office markets seizing the headlines, Mall REITs are no longer the “Problem Child” of the REIT sector, particularly after weaker players and lower-tier malls closed shop. Following three years of rental rate and occupancy declines, the supply-demand dynamic has recently favored retail landlords, which has helped these stumbling mall REITs regain some footing and repair balance sheets. Traffic and sales levels at higher-end mall properties were back to pre-pandemic levels during the holiday season, and retail sales data indicates that consumers were still spending. In addition to commentary on the critical holiday sales season, we’re focused on same-store occupancy rates and renewal rent growth, and whether these REITs are comfortable enough to again begin exploring external growth opportunities.

Net Lease & Casino REIT Earnings Preview

Net Lease: One of the most “bond-like” and interest-rate-sensitive property sectors, net lease REITs have lagged since mid-2022 as investors come to grips with a potential “higher-for-longer” interest rate environment. Thriving in the “lower forever” environment, the industry has been reluctant to acknowledge the higher-rate regime, keeping private-market values and cap rates surprisingly “sticky” and resulting in compressed investment spreads. Despite the tighter investment spreads, acquisition activity has slowed only modestly for some REITs- paying top-dollar for recent purchases – a strategy that could prove costly if rates remain elevated. Strong balance sheets and lack of variable rate debt exposure have positioned net lease REITs to be aggressors as over-levered private players seek an exit, but these REITs can afford to wait until the price is right. We’re keyed-in on commentary regarding cap rate movements in late 2023 and into early 2024 for a read on whether private market asset owners are holding tight or ready to adjust price expectations to the reality of higher benchmark rates.

Casinos: Heralded last year for their inflation-hedging characteristics, casino REITs faced the other side in 2023 as inflation normalizes from the four-decade highs seen last year, but closed their underperformance gap in recent months following strong Q3 earnings season in which both REITs raised their full-year FFO guidance. M&A opportunities will again be the focus, as VICI Properties (VICI) – which already owns a dominant share of the Las Vegas casino market – has had to look outside the casino sector and into the sports and entertainment industries in recent quarters to source deals. GLPI has been quiet on the M&A-front since mid 2022, and remains a potential – and perhaps inevitable – acquisition target of VICI. VICI noted last quarter that Las Vegas is continuing to see record traffic – trends that have continued in recent months per the latest data – and noted that regional casinos are performing well “as the high-value consumer segment remains healthy.”

Healthcare REIT Earnings Preview

Healthcare: We segment the healthcare space along the private/public pay divide given the divergent fundamentals between the public-pay sub-sectors – hospitals and skilled nursing – and the private-pay sub-sectors – senior housing, medical office, and lab space. Conditions are far more stable on the private-pay side. Senior Housing (“SH”) REITs were been among the better performers last year, lifted by a continued recovery in occupancy rates alongside record-setting rent growth. NIC data shows that the senior housing occupancy rate increased to 85.1% in the fourth quarter, continuing a slow-but-steady rebound from its pandemic lows of 77.8%. While occupancy rates remain below the pre-pandemic levels of around 90%, rent growth remained near record-highs in Q4 at 5.0%, strength that has been fueled, in large-part, by the nearly-9% increase in social security benefits, which has allowed SH owners to push rent increases. Positively for senior housing REITs, supply growth has finally cooled following a decade of elevated inventory growth, as NIC reported that units under construction amounted to 4.9% of total inventory, which is the lowest seen since 2014.

On the public-pay side, we’ve seen an intensification of tenant rent collection from struggling tenant operators. Gibbins Advisors reported last year that bankruptcy filings for healthcare companies nearly doubled in 2022 compared to the prior year, which it attributes to this “COVID hangover” resulting from waning government support and higher labor costs. Medical Properties Trust (MPW) – which remains in the cross-hairs of short-sellers – has been a laggard this year, with tenant concerns still in focus. Skilled nursing REITs have also reported lingering rent collection difficulties from a handful of struggling operators, but also highlighted some progress last quarter in restructurings. Tenant health – and resulting dividend sustainability is the primary focus of earnings season for these public-pay healthcare REITs.

Mortgage REITs Earnings Preview

“Here we go again” was the attitude for a brief period last year in the wake of the Silicon Valley Bank collapse, as sharp changes in benchmark rates and/or spreads in either direction can wreak havoc on mortgage REITs that are caught over-levered or improperly hedged. Interest rate headwinds in mid-2023 weighed on book values in Q3, but the macro environment was far more favorable in Q4, as Mortgage REITs are likely to report their best quarter for underlying Book Values since the start of the pandemic. The Residential MBS ETF (MBB) – which tracks the un-levered performance of residential mortgage-backed securities – posted total returns of 7.3% in Q4 – one of its strongest quarters on record. The Commercial MBS ETF (CMBS) – which tracks the un-levered performance of CMBS – posted gains of 5.0% in Q4, also one of its strongest quarterly gains on record. For residential mREITs, book values and dividend commentary will be the major focus. For commercial mREITs, we’re more closely-focused on loan performance and changes in Current Expected Credit Loss (“CECL”) allowance – particularly for mREITs with significant office exposure. We note that despite paying average dividend yields in the mid-teens, the majority of mREITs have been able to cover their dividends, but there remains a handful of mREITs with payout ratios above 100% of EPS.

Key Takeaways: Real Estate Earnings Preview

Real estate earnings season kicks into gear this week, and over the next month, we’ll hear results from 175 equity REITs, 40 mortgage REITs, and dozens of housing industry companies. Real estate equities – the sector with perhaps the most to gain from a moderation in inflation and normalization in Fed monetary policy – enter earnings season with wind in their sails. Expenses and margins will be a key focus amid broader disinflationary impacts on revenues and upside guidance revisions to Net Operating Income (“NOI”) are likely to be driven by lower expense expectations. Access to capital is also a focus amid expectations that capitulation from debt-burdened private portfolios will create consolidation opportunities for well-capitalized REITs, and public REITs’ access to equity capital could become a major competitive advantage if debt markets remain tight. As always. we’ll provide real-time commentary throughout earnings season for members.

For an in-depth analysis of all real estate sectors, check out all of our quarterly reports: Apartments, Homebuilders, Manufactured Housing, Student Housing, Single-Family Rentals, Cell Towers, Casinos, Industrial, Data Center, Malls, Healthcare, Net Lease, Shopping Centers, Hotels, Billboards, Office, Farmland, Storage, Timber, Mortgage, and Cannabis.

Disclosure: Hoya Capital Real Estate advises two Exchange-Traded Funds listed on the NYSE. In addition to any long positions listed below, Hoya Capital is long all components in the Hoya Capital Housing 100 Index and in the Hoya Capital High Dividend Yield Index. Index definitions and a complete list of holdings are available on our website.