Brexit, Schmexit. To reverse paraphrase Ron Burgundy, that de-escalated quickly! Brexit, an event that was touted as the end of the EU, quickly receded into the background as investors shifted from “the sky is falling” mode to “wait and see.” While fall-out day one was immediate with the S&P 500 Index down 3.6%, the recovery was nearly as quick; after some follow-through selling on Monday, global equities began a sharp recovery and the S&P 500 Index closed the following Friday down just 0.5% from the pre-Brexit close.
Rapidly diminishing fears of a Brexit contagion, steady improvement in the employment situation in the US, reports of a potential tapering by the ECB, continued insistence on a December hike by the FOMC and a growing consensus on prospects for fiscal stimulus by the new POTUS, whoever it may be, all had the opposite effect on bond prices and the yield on the 10-Year Treasury Note crept back from 1.488% to 1.608% during the quarter.
The Wilshire US REIT Index (“Index”) delivered a total return of negative 1.2% in Third Quarter, underperforming both the S&P 500 and the Russell 2000 Indices which advanced 3.9% and 9.1%, respectively. The results of the various constituents in the Wilshire US REIT Index were mixed (68 out of the 115 constituents were positive) and there was significant dispersion in total returns with the best performing REIT, CBL & Associates Properties, Inc., returning 33.2% compared to -15.9% for the worst, CoreSite Realty Corporation.
Retail dominated the list of underperformers for a number of reasons: (i) sales figures from high profile apparel retailers continue to underwhelm, (ii) investors always get concerned before back-to-school and holiday season (iii) both generalists and dedicated REIT funds are loath to buy retail landlords in the face of increasing threat from internet retail. However, both the National Retail Federation and the International Council of Shopping Centers are projecting decent sales growth in 2016 (3.6% and 3.3%, respectively) so investors may once again be underestimating bricks and mortar retail.
The real outlier in terms of underperformance was Storage, however, trailing the Index by 11.0%! This Icarus of REIT sectors, having flown too close to sky high valuations, fell precipitously in Third Quarter based on concerns about supply and decelerating revenue growth. Unlike some of the other “core” property types, there is very little reliable information on new supply in the various markets nor a coherent narrative on what drives demand. As a consequence, investors at times are flying blind in a sector with short-duration leases; with most of the Storage companies still trading at premiums to NAV, this son of Daedalus may have further to fall.