The Reasons for REITs

Despite the forecast of rising interest rates, Australian Real Estate Investment Trusts (REITs) currently stand out as an attractive sector with COVID recoveries not yet priced in. This is one of the reasons why now could provide an opportunity for investors looking to get exposure to property.

The reasons for REITs

Although REITs are normally negatively affected by higher interest rates because they would ordinarily have a reasonable amount of debt ― and valuations tend to fall as bond yields rise ― this time around there are some important offsets to help mitigate the impact of looming rate rises.

 Tim Rocks, Chief Investment Officer at E&P says as the economy continues to move further into the recovery phase of the pandemic, valuations for the sector are still relatively low.

“Figures for mall stocks appear particularly compelling after major stocks slashed asset values by around 20 per cent in the early stages of COVID. Now, many of those stocks are trading at discounts to those lowered valuations,” he says.

“Even despite the impact of lockdowns on rental income and visitations, physical property markets have been strong and there is no evidence that underlying property valuations have fallen.  This changes the investment proposition around value. ”

A shrinking pool of assets

These recent developments suggest there is now a wide gap between the valuations of listed and unlisted assets, which could encourage major investors like the big superannuation funds to enter the space.

Rocks explains that now there are fewer major infrastructure assets for super funds to buy, it is likely they will turn their attention to the property market and could bid up values ― as recently occurred with Unisuper taking a major stake in Macquarie Centre in Sydney.

“Equity investors are also facing a reduction in the number of defensive, higher yielding assets on the market with the takeovers of Spark, Sydney Airport and Ausnet in the past year.  A large part of this cash from these deals is likely to flow back into the market ― and with fewer infrastructure stocks on the market, much of it could flow into the REIT stocks.” he says.

Improving income prospects

Rocks says another key driver in the REITs investment case is that income prospects for the sector are only likely to continue improving in line with further recovery from lockdowns and COVID.

“The next phase for the mall stocks is likely to be the steady return of international tourism and enhanced government incentives to help drive foot traffic and entice customers to return to shopping, particularly in CBDs. This is set to provide significant uplift to current revenues, ” he says.

“When we consider other industry sectors such as travel, that have had recoveries already priced in, these have not yet been priced into many of the REITs,” he adds.