Expectations of interest rate increases and of future changes in monetary policy have at times affected the valuations of many investments, including the share prices of REITs.
Asset prices often decline as the immediate response to a rise in interest rates because higher interest rates reduce the present value of future cash flows, including bond coupons and stock dividends. If future cash flows are not expected to rise, then rising interest rates would have a clear negative impact on asset values, including the prices of REIT stocks.
Changes in the level of interest rates, however, often reflect changes in the level of economic activity and the outlook for future earnings. History shows that REIT share prices have often increased during periods when the Fed shifts from a stimulative policy stance to a neutral position.
Since the Fed began to normalize monetary policy in 2013, however, REIT share prices have generally declined on days that interest rates have risen. These declines have occurred despite the continued strengthening of REIT fundamentals including FFO and net operating income (NOI). In the past, there have been episodes of declines in REIT share prices during transition points in monetary policy that were followed by a rebound, as the higher earnings trend of REITs began to outweigh the effects of higher interest rates.
If the overall economy continues to expand, generating job growth and robust consumer spending, the demand for commercial real estate and the resulting growth of rents and REIT earnings could support REIT valuations, even through periods of volatile markets.