Last month, Citi Private Bank’s (CPB) global investment committee added an overweight position in REITs—the first time it has taken such a step.
Steven Wieting, chief investment strategist and chief economist at CPB, noted that the REIT market suffered a “very substantial correction” due to the COVID-19 pandemic. However, “for patient investors, this represents a significant valuation improvement for the sector and an entry point very different than the pre-COVID period.”
Looking out to the second half of 2020 and into 2021, Wieting says CPB sees value returning in certain real estate sectors and other asset classes that are deeply undervalued at the moment. However, a post-COVID normalization in real estate is unlikely until the second half of 2021, he adds.
In an interview with REIT.com, Wieting discusses the potential path of economic recovery and the impact that various property sectors are seeing from the pandemic.
Q: There is so much talk about the effect COVID-19 is having, and will continue to have, on the global economy. What is your research telling you—are we looking at a V, W, or U-shaped recovery?
It probably does not fit any of those perfectly. I would say if you are intent on picking letters, then maybe it’s an upward sloping W. Essentially, we think that the indiscriminate, complete shutdown of the world economy that we saw in March and April is not going to be repeated going forward. We feel that we’ve already experienced the largest impact that we are going to see there.
The shutdown also preceded any of the macro policy steps that were implemented by the Federal Reserve to help the economy adapt during this unprecedented time. That said, if you are an office building operator or an airline operator for that matter, it may not seem much different for you in the immediate sense. However, some of the broadest measures of economic activity, that in many cases went down toward zero in March and April, have subsequently rebounded very sharply in May and June.
If we’re just looking at the United States, we are now seeing the things that people will do to protect themselves from COVID, and that’s inhibiting the strength of any economic rebound in this period in July and beyond. In other words, we really aren’t thinking about the economy being at a “post-COVID” period in our estimates until the second half of 2021. That being said, it’s not going to mean that the economy will be sinking to new lows at any point going forward either.
How will the portfolio needs of investors transcend the volatility we see now?
We are not going to manage our portfolio simply on the basis of churning to basically buy all of the best performing assets in the moment. As you know, the current speed at which markets are adapting to the ups and downs over a very short period of time may not be representative of how you would invest over any longer period of time. Most investors are going to have a portfolio yield that transcends this COVID shock.
To a certain extent, some of the investments that we really liked in 2018 and 2019 had heavy dispositions toward what we were calling “digitization as an unstoppable trend.” Those came to fruition this year, but we are now terming them as “best in longevity with unstoppable trends.” These are tech-related digital disruptors and health care disruptors, companies with long-term secular growth opportunities.
We still feel that our digitization strategy is working with the economy continuing to use digital technology to adapt to COVID. The valuations of these shares have all rallied really, really sharply during what we call a “tactical period of investing” of 12 to 18 months going forward, where we hope to see some recovery in other assets.
With large cities and densely populated areas being so hard hit with COVID, what is the short- and long-term view of office and retail real estate, as well as apartment and senior housing?
I think we need to provide a caveat that it’s an evolving question that will take time to understand. There are a lot of people that have a thesis, and we’re just going to essentially look at the evidence for the time being and make assessments as we go. I am not inclined to think that we’ll see an entirely different style of economy in place post-COVID.
For example, going to an office will have its benefits in the future. It might be a different kind of office, one that incorporates working from home. I certainly think a true in-store shopping experience will be greatly valued in the future, even if e-commerce has an upward trend.
Pivoting a bit, what’s interesting about REITs generally, and housing specifically, is that the interest rate outlook has moved in favor of real estate. This whole COVID shock suggests that we will see a stronger shelter market. We’ve seen home builders doing well and single family REITs too, but this is a niche that’s doing a little better than other real estate classes. Broadly speaking, multifamily REITs are down almost as much as office REITs. That’s the kind of thing that doesn’t really make a lot of sense here. There’s worry about employment, but that’s highly concentrated in a couple of industries. Broadly speaking, if your home is now your office then there should be basically a stronger bid for assets in real estate and shelter.
Again, if everybody is going to move to the suburbs and buy a newly-built single family home, then the single family home builders should be booming—instead we’re seeing a decent rally for them but it’s not extreme. I think that this core picture is probably not strong enough for shelter related assets. So, we’re openminded about how people will adapt and how much of a move they will make from urban to suburban living and whether to buy or own. But the broader picture is not clear yet as to the future of shelter assets—as of right now they still look beaten down.
With interest rates remaining low and higher levels of distress in certain sectors, what asset investments look good short and longer term?
First, I think we want to be global on equity REITs. By this I mean the COVID impact is not the same everywhere, but easy monetary policy is widespread. If we look at it at this point, there is a great deal of dispersion in real estate assets that makes fundamental sense.
If you look at the strong assets in real estate right now, it’s cell towers, data centers, and logistics. These are all things that, again, we liked and even featured in particular a couple of years ago as private market solutions and now they’re all up year-to-date. But, when you think about the other assets that have seen declines, like hospitality, hotels, and shopping malls, these are the most beaten down areas. In many respects you can say the fundamentals are very, very weak around COVID, but so is the valuation. The pricing is down very efficiently along with valuation.
Now, look at residential multifamily, which looks a little bit weak comparatively speaking, given how we are seeing rent payments evolving. Certainly, there’s a new COVID risk in the U.S., and the possibility that we could end up with more potential disruption. We have questions about the degree of support from government, but by and large, we expect our shelter investments to be valuable and offer a return longer term. So, we’ll be in home builders or we’ll be in multifamily housing. When we look at industrial REITs, they’re not down as much. I also think that they are very efficiently priced.
Given everything you’ve discussed, how would you summarize your general mood toward real estate ?
I’m happy overall with real estate as an asset class this time around as I think about the efficiencies in the market, the aggregate drop compared to the broader markets, the drop in interest rates, and COVID being a very negative but discreet external shock. We think that there’s recovery for REITs when we get out of that so I’m comfortable having some real estate allocation now and an overweight allocation to REITs across the board as the economy recovers.