It has taken a while for the real estate world and Wall Street to mesh. Congress created the Real estate investment trust (REIT) almost 40 years ago so that small investors could invest in large, income-producing real estate alongside billionaire moguls and institutions. The seemingly simple goal took nearly 30 years to really catch on with the broader investment community.
Short-term performance aside, most observers believe the vehicle has finally evolved into a more permanent fixture in the investment world. The runaway growth of REITs during the 1990s placed a sizable chunk of real estate in the United States in control of the public companies. Estimates of the inventory of property currently held by REITs vary from $4 trillion to $5 trillion.
While the REIT industry holds more influence now than in the past, the test of the REIT structure's viability is ongoing. After enjoying double-digit returns throughout most of the 1990s, REITs tumbled during 1998. Investors, concerned with overbuilding and the sky-high prices being paid by some REITs, pulled back from the market and have yet to rush back in. In certain respects, what we have seen is one of the benefits touted by REIT supporters - the discipline of the public markets.
As the REIT market leaves the frenzied growth of the mid-1990s behind and navigates the first real shakeout since the early-1990s, the importance of well-informed investors is crucial to the continued success of public real estate firms. At the forefront of educating the public about REITs is the National Association of Real Estate Investment Trusts (NAREIT). Steven Wechsler, president and CEO of NAREIT, recently spoke to NATIONAL REAL ESTATE INVESTOR about the industry and NAREIT's recent activities.
NREI: After last year's fall from favor, it has been fashionable to trash REIT stock shares. Do you see any signs of a turnaround?
WECHSLER: Yes, there are some meaningful signs of a turn-around. The NAREIT Index appeared to bottom out on March 23 after a 15-month correction. Since then, REITs have been up pretty consistently. Whether that constitutes a continuing trend remains to be seen, but the recent performance has been positive. The primary reason for the uptick is tied to the across-the-board undervaluation of share prices.The fact that many REIT stocks are undervalued has been recognized, at least in some quarters, and has helped them recover some.
Also, we have seen some significant investors place votes of confidence in REIT shares recently. Warren Buffett invested heavily in several REIT stocks and there has been increased interest from the institutional investors, including the pension funds. Over the past year, the REIT story was one of healthy real estate fundamentals and growing earnings for REIT stocks, but lower or falling stock prices. Now it appears we have seen the end of the falling stock prices.
NREI: So stock prices have stopped falling, but capital is not as plentiful as it has been in the past. What new strategies will REITs employ to access capital, develop properties and grow their businesses?
WECHSLER: REITs have a host of opportunities to access capital, ranging from the public markets to the private side. We'll see REITs employ all available means to raise capital as their management deems appropriate. This includes joint ventures, partnerships, raising equity, raising debt. Across the board, I think we'll see a number of ways different REITs raise and source capital.
NREI: With stock prices of some REITs not bouncing back, there has been increasing talk of de-REITing. How serious is the de-REITing trend?
WECHSLER: For now, not very. The 1990s REIT industry continues to be a dynamic part of the real estate economy. Dynamism brings change. That means from year to year, month to month, we are going to see some REITs de-REIT, we are going to see some REITs go private and we are going to see many more private companies go public as REITs. At the end of the day, what is being created is an increasingly significant share of the overall real estate economy going public, largely as REITs but also as real estate operating companies.
NREI: What are some of the challenges facing the industry in the future?
WECHSLER: Notwithstanding the fact REITs have been around for close to 40 years, our greatest challenge is to establish long-term credibility. Although REITs have been in existence since 1960, the modern REIT marketplace is really an outgrowth of the 1990s. And, therefore, many want to see the resiliency and performance of the modern REIT over time. While the REIT industry has shown staying power over the last four decades, today it is a much larger, more significant factor within the real estate world than it has been at any time in the past. As a result, establishing and maintaining that trust will be important.
NREI: What is NAREIT doing to improve the perception of the industry?
WECHSLER: NAREIT engages in several communication initiatives with a variety of constituencies. One of our primary goals is to reach out to inform and educate REIT investors. Our efforts to better inform people about REITs include more conference calls with current and potential investors, improved penetration of the 401k market and seeing that there is increased coverage of publicly traded real estate in the broader media.
NAREIT's most significant effort on this front during 1999, however, is our national advertising initiative.
Research indicated that even fairly knowledgeable investors knew little about REITs. This broadcast and print campaign was launched on CNBC and in The Wall Street Journal in April to raise awareness. The campaign grew out of the publicly traded real estate industry's growth in the 1990s and the need to let the public in on what's been a little too well-kept secret. The campaign's theme is, "Changing the face of real estate investment." That's because REITs have made it possible for anyone to invest in income-producing commercial real estate. The advertising underscores that accessibility.
NREI: What do you want the public to know about REITs?
WECHSLER: Our goal is to communicate effectively three key characteristics that we associate with REITs and their place in the world of real estate investment. First, REITs make investment in a diversified portfolio of commercial properties accessible to everybody. Second, REITs are an attractive investment with the potential for long-term growth. Third, REITs provide a repetitive stream of income, a reliable base of cashflow. The steady nature of this stream is achieved largely through the high dividends mandated by the REIT rules, but also because the underlying real estate is tied to rental income. The more the public is aware of these valuable characteristics, the more we will see REITs and publicly traded real estate firms penetrating the broader investment marketplace.
NREI: What specifically can individual REITs do to improve their image?
WECHSLER: Fundamentally, image will reflect the performance of the underlying business. For any individual company, if it performs well, if it produces results, if its making money, over time that will be recognized. It is vital for an individual company to establish a business plan, make sure the investment community understands the plan, and then can execute against it successfully. If that's done, and if those results are communicated effectively, individual companies will get recognition in the market place, deservedly so.
NREI: What do you hear coming from Congress/Capitol Hill about changing REIT regulations?
WECHSLER: REITs were chartered by Congress in 1960. The REIT rules have evolved positively over the years. And this year we are pleased to see the potential for more constructive changes in the REIT rules.
The Clinton administration made a proposal in its fiscal year 2000 budget which would enable REITs to operate so-called taxable REIT subsidiaries to provide services to tenants as well as third parties. Proposed legislation, the Real Estate Investment Trust Modernization Act of 1999 (RMA), has been introduced in both the House and Senate that refines the Clinton proposal in a manner which NAREIT and the industry supports. The House bill, H.R. 1616, was introduced on April 29 by three-quarters of the House Ways and Means Committee, which is significant support. Its principal sponsors are Rep. Bill Thomas (R-Cal.) and Rep. Ben Cardin (D-Md.). A companion bill in the Senate, S. 1057, was introduced on May 14 by three-quarters of the Senate Finance Committee. The Senate effort is led by Senators Connie Mack (R-Fla.) and Bob Graham (D-Fla.).
We hope that as Congress considers tax legislation in 1999 a proposal along the lines of H.R. 1616 and S. 1057 will be adopted. As I said, the RMA primarily would permit a REIT to directly own and operate a taxable REIT subsidiary. The subsidiary could engage in a range of enterprises, be subject to the corporate tax, but could still amount to no more than 25% of the overall value of the total enterprise, including the REIT.
The main reason that the publicly traded real estate industry is enthusiastic about this proposal is that REITs need to remain competitive in the evolving real estate marketplace. To be competitive in today's marketplace means providing services to tenants and third parties as they relate to the real estate stream. High-speed Internet access, lifestyle services benefiting apartment residents, bulk buying power for office and retail tenants - across the board there are auxiliary services and goods which private-side competitors can and will provide. REITs should be able to do the same. The RMA would ensure that REITs could be competitive and still be, at their core, companies grounded in owning, operating and renting real estate, since 75% of the REIT's assets would have to be qualifying real estate assets, the same rule that is in effect today.
NREI: Give us an example of your typical day.
WECHSLER: My days are quite varied. Most days a significant portion of my time is tied to NAREIT's communications strategies as well as their execution. Given our agenda, my time is largely dedicated to investor, member and policymaker outreach. Because we've significantly extended the capabilities of NAREIT in the past few years, a meaningful portion of my time also has been spent strengthening NAREIT's internal capacity to deliver.