Most third-quarter conference calls are usually just a warm up for the fourth-quarter calls. Analysts know the real news comes in the fourth quarter when apartment REITs start to provide a picture of what the coming year looks like.
In a lot of ways, this year isn’t any different. Analysts have a good idea of how things will play out for the rest of the year and don’t expect to get much guidance for 2012, but they do want to know how the third-quarter economic woes impacted external growth and fundamentals.
With that as the background, here are three things analysts are expecting to hear about on the REITs' third-quarter conference calls.
1. Economic uncertainty won't tarnish the fundamentals picture.
There was plenty of uncertainty in August. “Right after the U.S. debt was downgraded, there was a period where we had some pretty choppy performance in the stock market,” says Haendel St. Juste, an analyst with Keefe, Bruyette & Woods (KBW), an investment banking and security brokerage firm based in New York. “People were taking longer to sign renewals. People were a little more price-conscious. There was a period in August where we did have a little lull, but it has rebounded.”
Major data providers say this had little effect on the third-quarter numbers. Analysts expect to hear mainly the same thing from REITs. “They grew both occupancy and rents from the second quarter to the third quarter, despite the uncertainty that was out there,” St. Juste says.
Paula Poskon, a senior research analyst with Robert W. Baird & Co., a Milwaukee-based wealth management, capital markets, asset management, and private equity firm, agrees. “There’s nothing in the numbers or in the operating performance from the properties that indicates there are any problems on the horizon,” she says. “The long-term fundamentals are what’s driving the business.”
But not everyone is uniform in this belief. Andrew J. McCulloch, an analyst for Newport Beach, Calif.-based Green Street Advisors, says he’s seen a moderation in rent growth. “People are questioning if this is a normal seasonal slowdown or indicative of something worse,” he says. “You’ve seen strong rent growth for the better part of two years now. Each successive rent increase to tenants is going to get harder and harder when incomes are flat and consumer psychology is so weak.”
2. REITs' external growth outlook might slow down.
At the recent Multifamily Executive Conference, Ric Campo, CEO of Houston-based Camden Property Trust, spoke about the decline in REIT stock prices and how that could ultimately hinder their ability to corral and develop new buildings. Basically, as stock prices go down, the cost of capital for a REIT increases. That can make acquisitions a more difficult proposition.
“I expect the language and tone on these calls to be a little different,” St. Juste says. “When your stock prices are down 10 percent or 15 percent it takes some air out of your enthusiasm, one of the offshoots is less acquisitions activity perhaps.”
For instance, some REITs may fund their acquisition from their internal line of credit, and via At The Market (ATM) stock offerings. And, with 5 percent volatility in stock prices on a daily basis, timing that offering can be tough. “If the volatility is strong at the time they’re ready to price, the stock price is depressed, and if they can't make the numbers work, they aren’t going to do it,” Poskon says.
St. Juste wonders if this volatility, combined with the astronomical prices some assets are trading for, could keep REITs on the sidelines. “This [market volatility] might swing the advantage away from the REITs to pension funds or life companies who aren’t as subject to the vagaries to the stock market, which doesn’t have as much impact on their cost of capital or their ability to pay for certain assets,” St. Juste says.
3. Expenses could potentially rise.
In many cases, leasing personnel have been pushing rent increases for a year to 18 months now. They know the kinds of expense bumps they’re sending back to the corporate office. “Property managers and leasing agents can see the heavy rent increases their properties are garnering; they know their business has gotten a lot better,” McCulloch says. “This makes it very difficult for operators to sustain salary freezes; I don’t think that’s sustainable.”
Poskon expects those raises to eventually come to fruition. “As fundamentals and earnings started to improve, I think that management teams felt that they needed to take care of their people,” she says. “We’ve seen a little of that. I would expect to see more that in 2012.”
You also have to pay the tax man. So far, REITs and other apartment owners have been able to fight off local tax increases. But as the third and fourth quarter comes around, those bills are starting to arrive. That can make the third and fourth quarter “ugly,” as Poskon says. Governments see rents rise and valuations go up and see tax revenue.
“The expense growth for these guys has been really low for two years or slightly longer,” McCulloch says. “Technology and efficiency improvements along with property tax appeals have helped. But, we all know property values have rebounded, and it’s just a matter of time [until taxes go up]. We expect expenses to be up slightly this year and trend back above 3 percent in 2012.”