Supply-Demand Balance Favorable for REITs in Second Half

As demand for commercial real estate continues to outpace supply growth, the industry should continue to generate solid returns for investors, according to Jonathan Litt, managing principal of Land and Buildings Investment Management LLC.

In a midyear review of the commercial real estate market, Litt noted that new supply growth across all major sectors remains well below historical levels. As a result, despite an uncertain macroeconomic environment, the supply-demand balance should be favorable for property owners, according to Litt. He also said valuations are working in favor of REITs.

"Valuations are discounted relative to bonds historically, and despite the capital markets having pangs of panic, the Fed is insuring both ample liquidity and low interest rates for the foreseeable future," he said.

Monetary policy around the world should also continue to benefit REITs as investors seek out yields.

"Specifically, the near zero interest rate policy has created a search for yield by investors, and mortgages with modest loan to value on commercial real estate are highly sought after," he said.

However, Litt speculated that the volatility in the market will continue. The concerns of a recession or liquidity crisis that plagued equity markets the last two summers remain in 2012, according to Litt. Litt said the impact of the broader economic fluctuations shouldn't be as dramatic for REITs and commercial real estate companies as they were in the recession of the early 2000s

In terms of specific sectors that may be attractive, Litt said market conditions appear positive for apartments, cell towers, data centers and high-end retail. Investors looking for value may be inclined to pounce if these sectors see their pricing affected by broader economic conditions, according to Litt.

"Any price weakness due to macro factors could present attractive opportunities to add to positions," he said.

Litt included the office sector among the weaker industry cohorts. He pointed to sluggish leasing activity in the fortress office markets of New York and Washington as cause for concern. Litt also cited deterioration in same store sales as a sign that lower-end retail property owners could struggle. Same store sales in this sector fell to 2.2 percent in the second quarter from 3.6 percent in the first.