Reits Are In A Funk, But Market Looking Up

JANE BRYANT QUINN - Staying Ahead

May 24, 1997|JANE BRYANT QUINN

NEW YORK — I'm hearing some grumbling from investors who recently bought real estate investment trusts.

Traditionally, these are stocks you own for income and stability. REITs currently yield an average of 6.5 percent compared with around 5.5 percent for utility stocks. They're also considered safe havens when the general stock market falls.

But what has pulled crowds of new investors into REITs isn't their income, it's their growth. Last year, the average REIT jumped by 36 percent, according to an index of 108 REITs maintained by Morgan Stanley, a Wall Street investment firm.

In mid-March, however, the bloom left the rose. Since then, the REIT index has declined about 5 percent. Some individual REITs are down 10 percent and more. So what's happening? Do REITs belong in your portfolio or not?

REITs tend to specialize in certain types of real estate, either nationally or within a single region of the country. They expand by acquiring existing properties and developing new ones. Most are well-established companies, not property speculations.

By law, 95 percent of their income _ from rents, leases and the occasional capital gain _ must be distributed to investors every year.

REITs trade on a stock exchange. You buy them through discount or full-service stockbrokers, paying normal brokerage commissions.

Clearly, they're stock prices got too far ahead of earnings. If you followed the crowds and bought at the price peak, you're in a funk.

But if you sell now and hippety-hop to the next zippy stock group, you will probably lose again. Bunny rabbits make lousy investors. They wind up in stews.

There are sound reasons for buying REITs and holding them, says Martin Cohen, co-manager of the country's largest REIT mutual fund, Cohen & Steers Realty Shares, in New York City. The real estate cycle is still moving your way.

Rents and apartment house properties are flat in Atlanta, Las Vegas and Phoenix, Cohen says. Otherwise, he can't think of any property type or region of the country where real estate values aren't moving up.

He blames this year's weak market partly on the surfeit of new REIT stock offered for sale. These companies have been hustling to raise extra money while buyers were hot.

But there's not a huge universe of REIT buyers, Cohen says, so when large amounts of new shares are sold they can dampen the industry's collective price.

A sudden wave of selling _ say, from disappointed bunny rabbits _ also depresses prices more than it would in industries that are better known.

But in Cohen's view, ``the real estate markets are still in a high-growth mode.'' REITs are showing 12 percent to 15 percent gains in earnings. He expects continued above-average growth, in dividends as well as earnings, for the next two years, at least.

That would classify REITs more as growth companies than income investments, even though their yields are high.

REITs can also reduce the risk in an investment portfolio. They're less volatile than most other stocks, because their high dividends offset the effect of market price drops. So they shouldn't decline as much in a general market rout.

In recent years, REITs have followed a price path that's somewhat different from stocks. If that continues, it will provide you with valuable diversification.

REITs are tough to analyze. The key number is ``funds from operations'' or

FFO

translated as income after operating expenses and before depreciation and amortization. You want the FFO to grow.

You also want to know how the dividends are being paid. Is the money coming from FFO or from property sales and reserves? If from the latter, your dividend payments may not be sustainable. Some REITs fudge their FFOs, so even diligent investors can't tell what's going on.

The best way to buy REITs is through mutual funds. After Cohen & Steers Realty, the most popular fund has been the Boston-based Fidelity Real Estate Investment Portfolio.

Last year, the Vanguard Group in Valley Forge, Pa., started the industry's first index fund _ Vanguard's REIT Index Portfolio, tied to Morgan Stanley's REIT index.