The U.S. stock market hit a low in March 2009 and the
recession officially ended less than four months later. Yet only now are there signs of a bottom in commercial real estate prices.
Moody's Commercial Property Price Index topped out in October 2007, just as stocks did, but its fall has lasted longer. The index declined precipitously until August 2010, as prices on commercial property in the U.S. plunged. Since then, the index has inched up a bit.
For investors, now may be a good time to put some money in real estate investment trusts, or REITs, emphasizing those that own office buildings and shopping centers.
I believe the U.S. is in a cyclical economic recovery that's likely to last for another two years or more. Auto sales, technology revenue, merger activity and the index of leading economic indicators are among the signs that point me to this conclusion.
It seems logical that real estate will not be too far behind.
Real estate tends to lag behind other parts of the economy. Rents are often negotiated under multiyear contracts, and buildings don't change hands every day, as stocks do.
In addition, the real estate market is much more local than the stock or bond markets. It isn't unusual for prices to be rising in one city while falling in another. In Atlanta, for example, commercial rents per square foot are down about 50 percent since March 2009 with little sign of a rebound.
Recovery Act
Even with the prevailing uncertainties, I believe a national commercial real-estate recovery is beginning. The behavior of the Moody's index is one clue.
Another is the number of millions of square feet of commercial property that changes hands each month. The turnover figure has been rising about 10 percent per month for about a year, according to JPMorgan Chase. Greater turnover doesn't necessarily mean higher prices, but the bank sees it as a harbinger, and I agree.
For many investors, REITs are a convenient way to invest in properties.
The trusts are publicly traded investment companies that must invest at least 75 percent of their assets in real estate or mortgages. (I'm not writing about mortgage REITs in today's column.) They must also get at least 75 percent of their income from rent (or mortgage interest).
Most important, they are required to pay out at least 90 percent of their net income in dividends. If they meet these guidelines, REITs do not have to pay corporate income tax. Congress gave them this privilege to spur investment in real estate.
Fat Dividends
Perhaps anticipating a revival in commercial property values, REITs have been showing gains since March 2009. Last year, the MSCI US
REIT Index rose 24 percent.
The average
dividend yield on the index is 3.4 percent. Many REITS, however, yield 5 percent or more.
Here are three REITs that I think deserve consideration. Each sells for no more than 15 times “funds from operations,” or FFO -- a measure often used for REITS instead of earnings.
My first recommendation is Piedmont Office Realty Trust Inc., based in Johns Creek, Georgia. Piedmont owns major downtown office buildings such as the Aon Center in Chicago, the US Bancorp Center in Minneapolis and 60 Broad Street in New York.
Suburban Focus
Trading at 12 times FFO and offering a 6.4 percent dividend yield, Piedmont looks attractive to me. Its debt-to-equity ratio is about 57 percent, which seems conservative for a REIT.
Second, I like CommonWealth REIT, based in my hometown of Newton, Massachusetts. CommonWealth says that at end of the third quarter last year it owned $6.7 billion worth of office and industrial properties, many of them suburban office buildings, in about three dozen states.
Commonwealth carries a hefty dividend yield of close to 8 percent and trades for only about seven times FFO. With shares selling for less than book value, I think it is a bargain.
One more I like is Winthrop Realty Trust in Boston. It is small, with a market value of about $328 million. Yet it is more diversified than the other two REITs I mentioned, owning office buildings, shopping centers and apartment buildings.
Winthrop provides a dividend yield of 5.4 percent and sells for 12 times FFO.
(John Dorfman, chairman of Thunderstorm Capital in Boston, is a columnist for Bloomberg News. The opinions expressed are his own. His firm or clients may own or trade securities discussed in this column.)
