Re-opening, Reflation and Re-calibration Continue to Provide Tailwinds Re-opening,ReflationandRe-calibrationContinuetoProvideTailwinds

The highly contagious Delta variant of the COVID-19 virus hit the United States with force in the quarter, with daily cases surging back to the 150,000 range. Despite that recent Delta-driven surge in COVID-19 infections, most U.S. consumers have not significantly altered their economic patterns. Foot traffic remains high in both malls and shopping centers; occupancy continues to recover in all residential sectors; and the industrial and storage sectors continue to push through aggressive rental rate increases. The U.S. REIT market remains attractive given reasonable valuations, ability to participate in the economic reopening of the country, and strong inflation protection for investors. Thus far in 2021, U.S. REITs are up 21.8% versus 15.9% for the S&P 500 Index. 

The best-performing sectors during the quarter were apartments and specialty housing (single-family rental and manufactured housing). Apartment REITs are seeing occupancy rebound significantly, which leads to increased pricing power and concession elimination. In some markets, rents are well above pre-pandemic levels. Single-family rentals and manufactured-housing REITs are experiencing similar pricing power, recently posting double-digit leasing spreads on renewals. Such favorable conditions are expected to continue.  

The worst-performing sectors during the quarter were the gaming and lodging REITs. Not surprisingly, the spike in cases from the Delta variant was felt most acutely in the hotel sector. Despite the recent slowdown in business travel, lodging demand is expected to make a robust recovery by mid 2022. For gaming REITs, the VICI/MGP merger required the issuance of $3.5 billion in new equity, heavily weighing on the sector’s performance during the quarter. 

The European REIT index saw a steep negative return of minus 10.2% (U.S. dollar gross total return) in September, making it the weakest of the three global regions for the month. For the third quarter as a whole, Europe finished in second place, with a total return of minus 2.2%, behind North America but ahead of Asia Pacific. The U.S. dollar climbed against all of the major European currencies (the pound, the euro and the Swedish krona) in the third quarter, depressing returns across the region. 

September’s share price falls were triggered by a combination of bond yield spikes on renewed inflation fears and concerns that supply chain interruptions could delay economic recovery in parts of the region. From a sector perspective, the industrial and self-storage sectors maintained their strong earnings and share price momentum. Retail continued to struggle in the quarter after experiencing a brief reopening boost. Office performance was more mixed in the quarter, with the UK doing better than other countries as employees began returning to offices there, as vaccination rates climbed and as the economy reopened. 

Among subsectors, Hong Kong developers (minus 14.1%5 in U.S. dollar terms) were the main drags because sentiment was dampened by news of debt-laden Chinese developer Evergrande’s possible collapse and worries about the implementation of a common prosperity policy in Hong Kong. On the other hand, Japanese and Singaporean developers rose 2.1% and 0.4%, respectively. For REITs, Japan’s REITs fell the most (minus 5.0%), followed by Singapore’s (minus 2.5%) and Australia’s (minus 0.9%). It is of note that depreciation of the Australian dollar against the U.S. dollar more than wiped out gains in local Australian dollar terms for the quarter.