REITs in Hotels: Navigating Interest Rate Shifts & Market Growth

Real estate investment trusts are in a sweet spot. The Federal Reserve cut short-term interest rates over the summer and hinted that more cuts were to come. That helps real estate companies that benefit from lower borrowing costs. Lower rates also make dividend yields on REITs more attractive. And although rates are headed lower because of worries about the economy, for now at least, the economy is still growing—and REITs are thriving. Since the start of 2019, the average real estate fund has gained 22.3%. By contrast, Standard & Poor’s 500-stock index is up 17.8%.

Still, at TIAA-CREF Real Estate Securities (symbol TIRHX), managers David Copp and Brendan Lee are getting defensive. “We’re in the longest economic expansion in history, but it’s going to end, and we keep that in mind,” says Copp. He and Lee are loading up on REITs that tend to hold up better in bad times, such as warehouses, manufactured housing and wireless cell-phone towers. They’re avoiding those that may be vulnerable in a recession, such as hotels.

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Copp’s favorite warehouse REIT these days is Rexford Industrial Realty, which owns more than 175 properties in Southern California. At the end of 2018, its biggest tenants included FedEx and Tesla. Rexford is benefiting from growing demand for its facilities in an area of limited warehouse supply. Over the past 12 months, the stock has climbed 35.7%.

Most stocks are measured by their earnings potential; REITs are measured by the cash flow generated from operations, known as funds from operations, or FFO. Copp and Lee favor firms with above-average cash-flow growth. They also look for REITs with below-average capital expenditures (money spent to acquire or maintain property or land). Generally, a warehouse has lower capital expenses than a hotel, says Copp.

The fund managers usually hold a REIT for three years, compared with the one-year period typical of the average real estate fund. Most fund managers talk about having a long-term view, says Copp, but some focus more on the short term than they admit.

Over the past decade, the fund has beaten 84% of its peers on an annualized basis, with a 13.6% return. Fees are below average, too, at 0.81%.