Is a real estate trust (REIT) the best haven?

Author: Jing Meng ANTON KWANG LUO BOMAI MANAGING DIRECTOR GLOBAL REAL ESTATE SECURITIES PORTFOLIO MANAGER

Global equity markets have generally performed well this year, with some markets setting all-time highs. But the most volatile stocks are the large growth stocks that led the market last year — especially tech stocks. The volatility of these stocks is so dramatic because the prices of these companies are more susceptible to fluctuations in discount rates and are more likely to generate volatility when future trends are uncertain. On the other hand, the big tech growth stocks are already components of many major indexes, and all at once they have had an impact on the index's decline.

Looking back at the bond market so far this year, unfortunately many fixed-income investors have been silently “hurt.” U.S. Treasury yields have climbed rapidly from a trough of less than 50 basis points in August 2020, recently breaching 175 basis points and setting a recent high, but historically low levels remain, and bond investors remain concerned about future downside risks.

AS COUNTRIES CONTINUE TO EMERGE FROM THE ECONOMIC CRISIS TRIGGERED BY THE CORONAVIRUS PANDEMIC, A GROWING NUMBER OF INVESTORS ARE LOOKING AT THE FUTURE OUTLOOK FOR THE US MARKET: EARNINGS WILL ONLY CLIMB SLIGHTLY THIS YEAR, AS INVESTORS ARE AWARE THAT A SIMULTANEOUS RISE IN INTEREST RATES AND GROWTH COULD THREATEN EQUITY AND BOND MARKETS AT THE SAME TIME., then entered a period of breaching slightly above the central bank's 2% long-term target. In fact, it is clear from recent sovereign price movements that investors expect average spreads over the next 5 years to remain above 2.5% and long-term interest rates above 2%. Such an environment is unlikely to be unfavorable for risky assets, but it is likely to pose a threat to the bond market and to stocks that are more sensitive to interest rates.

We take this opportunity to review the past performance of real estate investment trusts (REITs) in different trading and interest rate environments. IF ECONOMIC ACTIVITY STARTS TO HEAT UP, CAN A REAL ESTATE INVESTMENT TRUST (REIT) BECOME THE NEXT HAVEN ASSET?

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Wealthy compared to the last 30 years in three different transport environmentsWhenThe average daily returns of the FTSE NAREIT All Equity REITs Index are reported. The results show that in a high market environment, the performance of REITs far exceeds that of the stock market as a whole.

First of all, real estate investment trusts have a dynamic character, with land and property prices being susceptible to changes in the overall climate; on the other hand, rent adjustment rules are often related to changes in trade terms. Therefore, we expect real estate and real estate investment trusts to generate long-term positive feedback, and our historical data also confirm our views.

Real Estate Investment Trusts are just one of the reasons why real estate investment trusts are able to perform so well. In fact, the ability of these real estate companies to manage proactively, coupled with their generally conservative financial leverage, is the primary source of remuneration for REITs. Of course, we can't ignore the benefits that trading brings to REITs. Between 1991 and 30 years, the United States had a 12-year gross margin of less than 2%, while the average annual return rate for the remaining 11 REITs was 7.4%. Excluding the 2008 extreme period, the average annual return rate for the remaining 11 REITs was 11.5%. On the other hand, for the remaining 18 years, annual spreads in the United States were higher than 2%, while the average annual return rate for REITs was 16.5%. In other words, higher spreads seem to be more favourable to the real estate trust's performance.

In this environment, investors should step up the decentralization of their investment portfolio and deploy tangible assets that have the ability to generate value that is being returned in value — such as commodities, infrastructure and real estate.

Interest rate rise intensifiesDevelopment of REITs

What we also need to understand is that price rises are one thing and interest rate rises are another. Fluctuations between the recent fixed income markets and equity markets have led to fluctuations. The reason behind them is not actually passing the forecast level itself, but rather the impact that changes in the level of forecast levels may have on the direction of central government policy rates, bond rates, and discount rates. Therefore, the impact of interest rate changes on real estate investment trusts (REITs) is worth exploring in depth. We find that the correlation between changes in two-year domestic bond yields compared to REITs is expected to bring more significant upside to REITs. In the context of rising 2-year Treasury yields, the rolling 12-month return of the NAREIT All-Time Index of Equity REITs has an 85% chance of generating positive returns, with an average return of 15.1%, and the return rate is higher than 5% over the period of decline in Treasury yields.

We consider this to be a relatively noteworthy phenomenon, as actual and expected changes in central government interest rates — the latter often closely linked to expected spreads — often have a more significant impact on 2-year bond yields.

The stock market has been so volatile this year because investors have questioned the central bank's determination to extend its accommodative policy — and even fears that contagion could spiral out of control, forcing the central bank to raise interest rates rapidly and put pressure on the economy. However, based on our study of the correlation between real estate investment trust yields and two-year US Treasury yields, we do not see this situation as particularly damaging to REITs — even potentially helping to pay. Because of these links between real estate investment trusts and clearances, we believe that REITs are worth considering and integrating into the investment mix in a double-dip market environment.

Risk warning:

All data is sourced from within Lubomai. This document is for reference only and is not an offer or invitation to purchase or sell the Fund. The contents of this article do not constitute investment advice and do not relate to the investment objectives, financial situation or special needs of individual investors.

This document was issued by Lubomai Asia Limited and has not been reviewed by the Hong Kong Securities and Futures Commission (Securities and Exchange Commission). The Fund has been accredited by the Commission but does not advise or approve the suitability of the Fund for any particular investor or category of investor.

Investing comes with risks and investors may lose all of their investments. Past performance is not an indicator of future performance.

Charts, data, views, forecasts and other information provided are available only as of the date of publication of this document and are subject to change at any time without notice.

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