Investors who put their money in a fund devoted to real estate investment trusts have racked up 65% gains, while investors in homebuilder stocks still haven't recovered from the housing crash even after the U.S. economic rebound.
The gap will probably endure for years as job growth spurs demand for office, retail and apartment properties faster than Americans can buy new houses.
Almost half of institutional investors expect to increase their stakes in real estate over the next 18 months, according to a BlackRock Inc. survey of 201 fund managers. Most of that money will be in assets outside the homebuilding sector that are less sensitive to mortgage availability or growing consumer preferences to rent rather than buy property, according to Jack Chandler, global head of real estate at BlackRock.
“We'd expect the homebuilders to see their businesses expand, but perhaps not as quickly as the for-rent sectors,” said Mr. Chandler, who oversees about $25 billion, mostly in U.S. and international commercial real estate. “I think that'd be for the next couple of years.”
The Vanguard REIT Exchange-Traded Fund, which began trading on Sept. 29, 2004, was up 65% through Monday, not including dividends. The iShares U.S. Home Construction ETF (ITB), which started May 5, 2006, and includes homebuilders and home-improvement retailers such as Home Depot Inc. (HD), fell 49% from its inception through Monday.
'MORE VOLATILE'
The gap in inflows between the Vanguard REIT and iShares home-construction ETFs had climbed to $17.8 billion as of Dec. 19, the greatest since the iShares fund's inception. The net inflows were about $18.9 billion to the REIT ETF and $1.1 billion to the homebuilder fund in the last eight years.
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“Real estate development such as homebuilding is a lot more volatile,” said Jade Rahmani, an analyst with Keefe Bruyette & Woods Inc. who covers homebuilders and REITs. “Mature REITs generate steadier cash flows.”
REITs have performed well since the end of the recession as rents and occupancy rates rose for commercial real estate amid economic growth and limited construction. International and domestic institutional investors are pouring money into higher-returning investments such as office, retail and apartment properties, where rents are rising as Treasuries deliver low yields.
The homebuilding industry, which gets revenue from sales rather than rents, has struggled to recover from the worst housing crash since the Great Depression. Annual residential construction starts have totaled less than 1 million since 2007, according to Commerce Department data, compared with an average of 1.45 million in data going back to 1959. New single-family homes sold at an annual pace of 458,000 in October, 30% below the average since 1963.
The 11-member Standard & Poor's Supercomposite Homebuilding Index is up less than 1% this year through Monday and remains more than 50% below its July 2005 peak.
Demand for new homes has been sapped by tight mortgage lending standards and an unemployment rate that didn't drop to its historic average until this year.
“Housing had a disappointing 2014. It should be a much more encouraging 2015,” Moody's Analytics Inc. chief economist Mark Zandi wrote in an e-mail. “It's not going to be gangbusters for housing, but it should be a lot better.”
TOLL SHARES
The housing ETF's volatility was evident Dec. 12, two days after Toll Brothers Inc. (TOL), the largest U.S. builder of luxury homes, forecast weak growth in 2015, sinking the company's stock by the most in almost two years. Outflows from the ETF topped 84 million shares, the most this year, according to data compiled by Bloomberg. The next trading day saw an influx of almost 78 million shares, also a record for the year.
The homebuilding industry's troubles date back a decade, when loose mortgage underwriting sparked a construction and land-buying spree that decimated the industry when credit dried up. Thirteen of the largest publicly traded homebuilders reported inventory writedowns and impairments exceeding $30 billion from 2006 through first-half 2014, according to an October report by Fitch Ratings Inc.
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Owners of more than 5 million homes have lost property to foreclosure since 2007, according to CoreLogic Inc. Many are still renting rather than buying houses. The share of homes sold to first-time buyers hit its lowest level since 1987, the National Association of Realtors reported in November, as factors including student debt and delayed marriages depressed purchases by younger buyers. The U.S. homeownership rate fell to 64.4% in the third quarter, the lowest level in almost 20 years.
Home prices, which plunged 35% below their peak from July 2006 to March 2012, have since climbed about 30%, putting them out of reach of many first-time buyers.
“The consumer has been wary about the housing market,” said Jason Yablon, global portfolio manager at New York-based Cohen & Steers Inc. (CNS), which has about $53 billion under management. “Partially it's credit, partially it's still some level of uncertainty and partially it's because home prices already moved quite a bit and maybe got ahead of some people's affordability.”
Apartment rents have been rising to records since mid-2011, reaching $1,117 in the third quarter, according to Reis Inc. (REIS) The vacancy rate was 4.2% in the third quarter, versus 8% at the start of 2010.
HOME LANDLORDS
Not all REITs have been successes. Single-family rental landlords, such as Silver Bay Realty Trust Corp. (SBY) and American Residential Properties Inc. (ARPI), are trading below their initial offering prices. That's partly because they're a new asset class trying to demonstrate their ability to make money, according to Anthony Paolone, a REIT analyst with JPMorgan Chase & Co.
“One of the challenges now is the conventional apartment business is just so good, it's hard to get a real estate-dedicated investor to say, 'I'm going to move away from apartment REITs and buy single-family rental guys,'” Mr. Paolone said. “You still have the business model that has to come along with the single-family rental guys, yet these apartment guys are raising rents at a pretty high clip.”
Office rents in the third quarter rose to $23.94 a square foot, the highest since March 2009 and 4.5% below the June 2008 peak, according to Reis.
“What's driving commercial real estate is much more just about the supply and demand for commercial space,” Mr. Yablon said. “That's being driven by GDP growth and job growth, and on top of that you've had a lot of capital seeking any sort of higher return than Treasuries in this environment.”
The Vanguard REIT ETF has an indicated dividend yield of 5.36%, compared with the current 2.16% yield for the benchmark 10-year Treasury note. The REIT ETF tracks the performance of the MSCI REIT Index and has 144 holdings, including shares of Simon Property Group Inc. (SPG), the biggest U.S. shopping-mall owner; Public Storage (PSA), the largest self-storage company; and Equity Residential, the biggest U.S. apartment landlord.
REITs were born in 1960, when President Dwight D. Eisenhower signed legislation creating a vehicle to give small shareholders rather than just the wealthy a chance to invest in income-producing property through real estate companies.
Investors like REITs because, by law, they must pay at least 90% of taxable earnings to shareholders as dividends. In exchange, REITs don't have to pay federal income taxes on those earnings. Most REITs distribute all their earnings to get the full deduction. To qualify as a REIT, a company is required to invest at least 75% of its assets in real estate and get 75% of its gross income from rents or interest on property mortgages or sales of real estate.
“Commercial real estate isn't very liquid,” Mr. Rahmani said. “But REITs you can buy and sell every day.”
