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Searching For Financially Sound Property Market Equity REITS

Housing-Market / Housing Stocks Aug 16, 2009 - 11:07 AM GMT

By: Richard_Shaw


Best Financial Markets Analysis ArticleEquity REITs have made a strong move lately.  We have expressed our doubts about the wisdom of that move (Are REITs Ahead of Themselves?), and wonder about the quality of the underlying trusts.

To look behind the REIT fund surge to constituent REITs, we screened for the more financially sound individual trusts.

REITs face various risks, which include among others:

  • trends for their property type
  • trends for their geographic exposure
  • lease defaults in a tough economy
  • lease non-renewals in a tough economy
  • debt refinancing in a tighter lending environment with declining asset values (probably higher loan-to-value ratios and possibly lower overall tenant credit quality)
  • variable debt interest rate increases.

We are focusing on the debt and refinancing related issues here.

The list below (as of August 7, 2009) contains 63 equity REITs that have better Long-Term Debt-to-Capital ratios than the rest. If you are seeking individual REITs instead of a diversified REITs fund, there may be securities in this list that could be of interest.

[Note that we did not do any pro forma analysis -- just a current financial snapshot -- you need to take the analysis further and forward.  This is just a starting point for consideration.]

The list is sorted by the Long-Term Debt-to Capital ratio, and shows the Times Interest Earned ratio, and the Return on Equity over the past twelve months, as well as the Market-Capitalization.

REITs with an LTD/Capital ratio over 60% were omitted.

Standard & Poor’s says that those with LTD/Capital ratios of 35% or less are in strong financial positions (shaded green).  S&P says those with ratios between 35% and 50% have adequate financial strength (shaded yellow); and that those with ratios greater than 50% have limited financial flexibility (shaded pink).

For Return on Equity, we shaded those under 3% pink for poor; shaded those between 3% and 8% yellow for potentially acceptable for this period; and shaded those greater than 8% green as good for this period.

For Times Interest Earned, we shaded those under 1 pink as poor; shaded those between 1 to 2 yellow as potentially acceptable; and shaded those greater than 2 green as acceptable.

For Market-Capitalization, we shaded those under $100 million pink as insufficiently liquid; shaded those between $100 to $250 million yellow as probably insufficiently liquid for most investors; and shaded those over $250 million as possibly greater than the minimally acceptable liquidity (although $500 million to $1 billion may be your minimum instead).

As a practical matter, participation in the smaller REITs is better attempted through diversified funds which are themselves liquid.  Liquidity is a key attribute of investments if you intend to use stop loss orders, because when a stop is triggered, it becomes a market order.  A market order in a thinly traded security will likely produce unsatisfactory results, perhaps quite unsatisfactory results

Disclosure: we do not own any REITs or REIT funds in any accounts at this time.

By Richard Shaw

Richard Shaw leads the QVM team as President of QVM Group. Richard has extensive investment industry experience including serving on the board of directors of two large investment management companies, including Aberdeen Asset Management (listed London Stock Exchange) and as a charter investor and director of Lending Tree ( download short professional profile ). He provides portfolio design and management services to individual and corporate clients. He also edits the QVM investment blog. His writings are generally republished by SeekingAlpha and Reuters and are linked to sites such as Kiplinger and Yahoo Finance and other sites. He is a 1970 graduate of Dartmouth College.

Copyright 2006-2009 by QVM Group LLC All rights reserved.

Disclaimer: The above is a matter of opinion and is not intended as investment advice. Information and analysis above are derived from sources and utilizing methods believed reliable, but we cannot accept responsibility for any trading losses you may incur as a result of this analysis. Do your own due diligence.

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