Published March/April 2013
Loquacious J.P. Morgan real estate strategist Michael Hudgins has long advocated for the inclusion of both domestic and global REIT securities as vital components of well-balanced investment portfolios. Whether he’s talking to institutional or retail investors, Hudgins can draw on a vast body of research and analysis of real estate investment performance.
He sat down with REIT magazine to discuss some of the latest trends in the REIT market and investors’ perceptions of the REIT approach to real estate investment.
REIT: U.S. REIT investors have enjoyed four straight years of positive returns since the financial crisis hit its apex. How much longer can the party last?
Michael Hudgins: It’s a great question. Historically, if you look back at real estate and REITs, they enjoy a seven-year cycle. We’re four years into the current cycle now, so we believe there are a good two to three more years where REITs deliver core property returns.
REIT: Does the REIT industry’s prolonged run of strong performance raise any concerns for you about an overly exuberant market?
Hudgins: I would be very concerned if REITs were trading at this point in time at a very large premium. If I saw something of that nature, I expect that we’d see a slowdown until the real estate caught up.
Right now, I’m not concerned. REITs are trading at a reasonable premium. Cash flow and dividends are continuing to grow. We’re just not at the point where you look at some of those factors and think they’re not working in REITs’ favor.
REIT: Is increased volatility and correlation to the broader markets just a fact of life for REITs now, or do you expect to see that dissipate over time?
Hudgins: Actually, I already believe that REIT volatility is coming down. REITs are still trading at a premium in terms of volatility versus the S&P 500, and that premium has come down.
I believe volatility will continue to come down if REITs can continue to de-lever. So, no, I don’t think it is a fact of life.
REIT: Do REITs still present the same level of hedging utility for investment portfolios?
Hudgins: What we have been talking about with clients is that bonds just can’t get investors where they need to go over the next 10 years, given where yields are for sovereign credit bonds. Investors really do understand that.
"The growing interest among investors in alternatives to equities and bonds means that we are seeing an increasing interest in real assets."
At the same time, many investors are still looking for growth from their portfolios. They can’t give up on equities, despite that the fact that they’re more volatile.
They are looking for other ideas. Property offers an interesting compromise. It’s a stable yield versus sovereign bonds, but REITs can deliver equity-like upside in terms of growth.
At J.P. Morgan, I know that we have seen increasing interest from investors in allocating more of their money away from bonds and into a real assets allocation, which will include REITs.
REIT: Alright, let’s turn to the international market now. For investors seeking outsized returns on their real estate investments, can they find them overseas?
Hudgins: Yes. We think this is a great year to have a global execution on listed property.
International REITs have underperformed the U.S. for several years running and done so fairly dramatically. However, the real estate operating companies still offer upside.
We’re still recommending a U.S. REIT stock allocation to our clients. The property market is particularly healthy here.
Yet, although U.S. REITs offer a nice stable core return, I think international property stocks offer you the upside.
REIT: What are the issues abroad that could create the most consternation for investors?
Hudgins: There are two, and they’re the same things that have concerned us before: Will China disappoint? Also, will Europe have another crisis where debt becomes unavailable?
There’s still a great deal of uncertainty as European countries continue to impose fiscal austerity on their national economies. We’ve seen that causing some significant macroeconomic angst.
REIT: Lastly, would you say investors’ overall confidence in REITs as a core element of their investment portfolios increased or decreased in the last five years?
Hudgins: Really, I would say that it remains about the same, with marginal improvement.
Even though the rebound we’ve seen has been astonishing, the downturn we saw in 2008 was also just as astonishing, albeit in a negative way. In other words, this asset class suffered a dramatic drop in 2008 that has been neutralized by a very strong recovery. I think those evened themselves out.
The growing interest among investors in alternatives to equities and bonds means that we are seeing an increasing interest in real assets. I do believe that will spill out into the REIT space as a positive, creating some uplift.
But in terms of growing the asset class, I think there’s still some work left to be done.