Global Real Estate Securities: 2009 Update

The bottom line for real estate equities is that with the debt markets in flux and transaction activity stalled, 2009 is likely to be more about positioning for the economic rebound rather than aggressively acquiring assets.

Executive Summary

• In 2008, the real estate securities market was devastated not only by the general decline in the equity markets and the deterioration in the outlook for commercial real estate, but by the misperception that commercial property suffered from the same supply excesses as the residential market and the perceived association with financial companies.
  
• Property operating fundamentals weakened in 2008, and will likely worsen in 2009, but public share prices have already priced in much of the expected deterioration. De-leveraging and disinflation will remain key themes in 2009. The first part of the year will be a struggle for many commercial real estate players as the market is adjusting from a hangover of excess liquidity to one in which debt is scarce.
  
• The steep decline in asset prices globally, especially real estate and equities, has significantly reduced household net worth. Many assets are already priced at depressed levels that have factored in extremely negative scenarios. The pendulum has swung too far on the way down and there is a definite disconnect between the valuations of direct real estate, even assuming a further material increase in cap rates, and the pricing of real estate equities.
  
• As the economic recovery gains traction, we anticipate a supply-demand imbalance in favor of landlords, who will be in an enviable position given the long lead-time to create new supply. We expect that the public real estate companies will be significant beneficiaries of capital flows as investors look to take advantage of the distress in the market.
  
• The first half of 2009 is likely to remain volatile, but signs of an economic recovery in 2010 should – provided the debt markets stabilize – prompt a rebound in stock prices and provide the opportunity for very compelling risk-adjusted returns from the sector.