As the housing market has recovered, apartment real estate investment trusts (REITs) have struggled. That’s a buying opportunity says Scott Hasting, Assistant Portfolio Manager of Delaware Global Real Estate Opportunities Fund (DGRPX). He likes BRE Properties Inc (NYSE:BRE), AvalonBay Communities Inc (NYSE:AVB), and Camden Property Trust (NYSE:CPT).
A Positive Hidden by the Negative
When Hastings looks at the home market in the United States, he sees an industry that has changed in some important ways. For example, the decision to buy a home is being put off by more and more people. That makes complete sense, given that many younger adults are starting their lives with heavy school debt. And with increasingly less secure jobs, buying a home is a weighty commitment at any age if you might have to sell it to move closer to your next employer.
So, while the uptick in the home market is nice to see, there are notable changes that are leading people to rent longer. That works to the benefit of apartment REITs. As the housing market has recovered, however, investors have looked less favorably on the sector even though such underlying trends haven’t changed.
About the Businesses
Hastings notes that apartment REITs have notable tailwinds. For example, they can access cheap capital in both the equity and bond markets. That gives them a leg up on private owners of apartments. Despite this, Hastings believes the REITs are trading at discounted valuations to private owners.
Location, Location, Location
While the apartment industry in general is interesting, it boils down to location in the end. Hastings likes the West Coast market and is particularly fond of AvalonBay Communities Inc (NYSE:AVB). The company is known for its higher-end, amenity-rich apartments and is an astute developer. Moreover, it just purchased a large portfolio of properties that it is redeveloping, adding additional internal growth opportunities to the mix.
AvalonBay Communities Inc (NYSE:AVB) owns over 270 communities, of which 121 are on the West Coast. Its other markets are generally on the East Coast between Boston and Washington D.C. Although Hastings doesn’t like some of those markets as much as the West Coast, virtually all of AvalonBay Communities Inc (NYSE:AVB)’ communities sit in space-constrained markets. That gives it the ability to charge higher rents and supports higher rent growth.
The REIT’s rent roll dipped slightly in 2009, but has otherwise headed higher over the past decade. The dividend has also headed higher, though not on an annual basis. That said, the company didn’t cut the distribution during the 2007 to 2009 recession like many other REITs.
With a yield of around 3.2%, income investors won’t get too excited about AvalonBay Communities Inc (NYSE:AVB) shares. However, the REIT is well positioned in space constrained markets, so it’s worth a look for those seeking a mix of growth and income.
A Turnaround Story
Hastings also highlights BRE Properties Inc (NYSE:BRE), but for a different reason. The company has been struggling, partly because of an effort to reposition the portfolio. BRE Properties Inc (NYSE:BRE) is selling properties that it no longer sees as strategic and is building new apartments from the ground up.
A sale is relatively quick and pulls rent earning assets out of the portfolio. Although the sale proceeds are going toward new construction in space constrained markets, it takes time to build and rent out an apartment building. So there’s a mismatch that only time can heal. This is why the shares have been stuck in neutral for a couple of years.
The REIT yields around 3.2% and the repositioning complicates its financials. However, as the portfolio repositioning progresses, Hastings expects the underlying value of owning good properties in tight markets to shine through. Note that all but three of its apartments are in core West Coast markets.