Canaccord Genuity Corp. analysts lowered their recommendations and price targets on several real estate investment trusts (REITs) as they assess the impact of rising interest rates on their expected future returns.
The TSX Capped REIT Index posted a return of 0.9 per cent in the first calendar quarter this year, underperforming the broader Canadian market return of 3.8 per cent. It also lagged returns of other yield-oriented sectors.
“We attribute the underperformance of REITs relative to the broad market to rising long-term interest rates, widening credit spreads and outsized returns for the Canadian energy and materials sectors,” Mark Rothschild, an analyst at Canaccord Genuity, wrote in a note to clients on Tuesday.
He pointed out with long-term rates rising, the risk of capitalization rates -- or the estimated return based on property income that is expected to be generated -- will rise as well.
“In general, REITs with a favourable long-term outlook for same-property [net operating income] and cash flow growth trade at higher multiples. However, with long-term interest rates rising, future cash flow growth is now being discounted at a higher rate compared to earlier this year, resulting in lower valuations for a number of ‘higher-growth’ REITs,” he said.
Rothschild reduced his 12-month price target for eight REITs in his coverage universe by an average of 5.5 per cent, including Brookfield Asset Management, Canadian Apartment Properties REIT, Dream Industrial REIT and Granite REIT. The new price targets reflect “our belief that investors will, and should, consider the potential for cap rates to rise and the impact on property values,” he said.
He also cut his stock recommendation from a buy to a hold on Allied Properties REIT, Crombie REIT, Dream Office REIT, Plaza Retail REIT, RioCan REIT and SmartCentres REIT.
However, there are a number of companies he sees outperforming over the next year such as InterRent and FirstCapital REIT.
Overall, he believes REITs focused on offices, retail and seniors housing will fare better than industrial and residential-focused REITs because investor sentiment will likely bounce back after being severely impacted during the COVID-19 pandemic.
Certainly! The Canaccord Genuity Corp. analysts have recently adjusted their recommendations and price targets on various Real Estate Investment Trusts (REITs), considering the impact of rising interest rates on projected future returns. Mark Rothschild, an analyst at Canaccord Genuity, highlighted how the performance of REITs relative to the broader market has been affected by several factors, including rising long-term interest rates, widening credit spreads, and the robust returns of other sectors like Canadian energy and materials.
Rothschild emphasizes that as long-term rates increase, the risk associated with capitalization rates also rises. Capitalization rates estimate the expected return based on property income, and with the rise in long-term interest rates, the valuation methodology for several 'higher-growth' REITs has shifted. This results in lower valuations for these REITs compared to earlier assessments, impacting their multiples and, consequently, their stock prices.
In response, Rothschild lowered the 12-month price targets for eight REITs in the coverage universe by an average of 5.5 percent, including companies like Brookfield Asset Management, Canadian Apartment Properties REIT, Dream Industrial REIT, and Granite REIT. He also downgraded stock recommendations from buy to hold for Allied Properties REIT, Crombie REIT, Dream Office REIT, Plaza Retail REIT, RioCan REIT, and SmartCentres REIT. However, he identified companies like InterRent and FirstCapital REIT as potential outperformers in the coming year.
Rothschild's perspective leans toward the belief that REITs focused on offices, retail, and seniors housing might fare better than those concentrated on industrial and residential properties due to the expected rebound in investor sentiment after the severe impact of the COVID-19 pandemic.
This analysis is heavily influenced by the relationship between long-term interest rates and the perceived risk associated with property income, which impacts valuation metrics and, subsequently, investment recommendations for various REITs across different sectors.
The concepts highlighted in this article encompass financial analysis, market sentiment, valuation methodologies (specifically related to REITs), the impact of rising interest rates on investment returns, and sector-specific considerations influencing investor decisions within the real estate market.
