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S&P Downgrade Ripples Through REITs

08/10/2011 | By Carisa Chappell

REITs had a wild two-day swing on Aug. 8 and Aug. 9 in the wake of Standard & Poor's downgrading of the United States' credit rating. Despite the rollercoaster ride, industry analysts maintain that REITs are relatively well positioned going forward.

The FTSE NAREIT All REIT Total Returns Index fell 9.6 percent on Aug. 8, but recovered nearly all of its losses the following day, climbing 9.74 percent on Aug. 9's trading.

"We're certainly in a challenging environment right now," said Keven Lindemann, director with SNL Financial. Lindemann said the S&P downgrade reflects concerns about the broader economy, as consumer spending is down and growth in the job market remains stagnant.

"All of those macroeconomic factors really do have an impact on commercial real estate and the demand for commercial real estate space," he said. "If job growth is down, the demand for office space is down, and if consumer spending is down, the demand for retail space is going to be impacted."

Lindemann noted that no particular sectors of the REIT industry were spared in the precipitous drop on Aug. 8.

"It really seemed to be a sell-off across the board," he said. "There wasn't a lot of distinguishing between different property sectors. It was just general concern and money fleeing out of risky investments into lower-risk investments."

Jeffrey Rogers, president and chief operating officer of Integra Realty Resources, called S&P's decision "reckless" in light of the fragile state of the economy

"I think it will tighten markets up a bit," he said.

As a result of the downgrade, Rogers said hiring will likely come to a halt or be delayed by companies. He also said demand for commercial real estate will decrease and further stall the economy in the short run.

Other possible effects include significant tax increases and further reduction in consumer spending, according to Rogers. Additionally, Rogers said the retail and hospitality sectors will suffer. However, he added, big offices in big cities may be able to weather the storm.

"The sectors that will be hit harder are the ones that are the last to recover," he said. "Both suburban office and industrial have been having trouble to begin with and will be hit harder."

However, in the long term, Lindemann said, REITs are in relatively good shape.

"For the most part, REITs own high-quality, attractive assets, and the companies tend to have reasonably strong balance sheets," he said. "The interest rates are certainly low, which benefits REITs as big users of capital. I don't think anyone expects interest rates to rise anytime soon. The fact that they invest in hard assets is certainly appealing to investors in these times."

From an investor's standpoint, Lindemann added, REITs continue to offer better dividend returns than bonds.