This article is republished with permission from REITCafe.
As the broader stock market has tumbled further, the freestanding retail real estate investment trust (REIT) sector stayed in positive territory for the year. In contrast to the rest of the REIT industry, total REIT returns for this sector are up more than 10 percent so far in 2016. Also known as triple-net-lease REITs, this is one of the smaller REIT sectors, with a market cap of $31.3 billion at the end of January. Nevertheless, it has been the best-performing sector and the only sector with a positive total return so far for 2016.
High dividend yields are one attractive feature of freestanding retail REITs. The current yield of 4.6 percent exceeds the industry average and is very attractive in the current low-interest-rate environment. The Fed’s December rate increase did little to raise concerns for this sector, especially since economic uncertainty so far in 2016 has pushed rates down.
| TREPP-i Survey Loan Spreads (50–59% LTV)* |
| This Week | Previous Week | Previous Month | End 2015 | End 2014 | |
| Industrial | 178 | 169 | 161 | 163 | 138.5 |
| Multifamily | 178 | 168 | 170 | 168 | 139.8 |
| Office | 181 | 175 | 164 | 168 | 148 |
| Retail | 179 | 169 | 165 | 168 | 139.8 |
| Average Spread | 179 | 170.25 | 165.00 | 166.75 | 141.5 |
| 10-year Treasury Yield** | 1.73 | 1.84 | 2.15 | 2.27 | 2.17 |
The low-risk nature of these REITs has made them particularly attractive in the current volatile market. These REITs mostly invest in freestanding buildings with long-term leases where tenants cover most of the expenses. As such, freestanding retail REITs are seen as a bondlike investment, involving little risk and high returns.
Strong financial results have also helped the sector. The two largest REITs have reported fourth-quarter earnings.
- Shares of Realty Income Corporation are up more than 15 percent during 2016. The company reported better-than-expected fourth-quarter 2015 financial results. The company pays monthly dividends and has steadily increased its payouts.
- Similarly, National Retail Properties reported fourth-quarter results this week that were in line with Wall Street expectations and raised its 2016 guidance. Its shares also are up almost 15 percent during 2016.
The sector faces several challenges. First, strong investor interest has driven up competition for assets, making acquisitions more difficult and expensive and making it harder to grow and earn desired returns. In addition, the long-term bondlike leases that characterize the sector have limited upside income potential and do not typically perform well when interest rates are rising and inflation is on the horizon.
The sector remains attractive. But if interest rates and inflation begin to rise, the characteristics that have made it so attractive in the past, including defined revenue streams over long lease terms, will make it less appealing.
* TREPP-i Survey Loan Spreads levels are based on a survey of balance sheet lenders. For more information, visit Trepp.com.
** - 10 yr. Treasury Yield as of 2/16/2016.
