STOCK WATCH


Apartment REITs That Could Come Out Winners

Anne Kates Smith

Real estate investment trusts that specialize in apartments have struggled in a tough housing market. But these four bargain-priced companies appear poised to succeed.



A dismal housing market hasn't done the apartment-rental market any favors. As houses and condos go unsold, accidental landlords trot out "For Rent" signs that compete with those of building owners. Yet still-lofty real estate prices in the best markets make it tough for the buyers of apartment buildings to strike a profitable deal. First-year rates of return on acquired properties have fallen to an abysmal 4% in some markets.

It's little wonder that real estate investment trusts -- portfolios of properties that trade like stocks -- that specialize in apartments are struggling. Last year, shares of apartment REITs returned 40%, according to the National Association of Real Estate Investment Trusts, and many were on a tear early in the year. But through April 30, apartment REITs were down 5.4% on average, while all property-owning REITs were up an average of 3.4%.

The news isn't all bad. As home ownership loses luster, more renters will stay put, a positive for vacancy rates. "Ultimately, fewer homes sold is good for apartments," says analyst Rod Petrik, who follows REITs for St. Louis-based brokerage Stifel Nicolaus. "Fewer people are leaving apartments to buy houses, and those in apartments are staying longer." Some apartment REITs, moreover, are well-positioned to ride out this dicey market, while others have been beaten down by investors to bargain levels. Some qualify on both counts, making them worth a hard look from investors. Some investors are looking already: Takeover speculation boosted the stocks on May 11, after rumors circulated that Post Properties (symbol PPS) was in the crosshairs of another, private (non-publicly traded) REIT. "That was the shot over the bow that got people's attention," says Petrik.

On May 15, he raised his opinion on four apartment REITs, upgrading them from "hold" to "buy." The common themes: The four are trading at a discount by several important measures, and all have large pipelines of properties in development. Turns out that developing properties is a more profitable business today than buying existing properties, says Petrik, with returns from the former outstripping the latter by about two percentage points a year -- enough to really matter when you deal in $100 million properties. Here's the rundown on Petrik's picks:

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AvalonBay Communities (AVB). A real "blue chip" among REITs, Avalon is known for its luxurious apartments in the northeast and in California, as well as for being in the top-tier in terms of its portfolio, development pipeline, management and balance sheet. Avalon has $1.4 billion worth of property under construction, and another $3.9 billion in planning, land and development rights. The stock closed at $122.24 on May 15, down 1.7%. At that price, it yields 2.7%. The shares are down about 18% from their 52-week high and are more than 12% below the net asset value of AvalonBay's properties, which Petrik puts at $140 a share. Avalon deserves to trade at a 4% premium to NAV, says Petrik, who says the stock could trade up to $145 within 12 months.

Archstone-Smith Trust (ASN). Archstone is concentrated in major, high-growth markets, including Washington, D.C., California, New York and Seattle, with $4.4 billion worth of property under construction or able to be developed. On a recent earnings call with analysts, the company indicated that smart investments made years ago bode well for outsized gains when the properties are eventually developed. The stock, which closed at $53.52 on May 15, down 1.1%, yields 3.4%. It is trading 17% below its 52-week high of $65 and more than 9% below an estimated NAV of $59 a share. Petrik think the stock deserves a 5% premium to NAV, hence his $62 price target.

BRE Properties (BRE). This REIT's midscale properties are concentrated in the west, primarily in California, but it also owns apartments in Seattle and Phoenix. BRE has polished its balance sheet, trading a recent tendency to load up on variable-rate debt for more stable IOUs. Currently, 90% of the company's debt is fixed, at an average rate of 5.7%. BRE's $1.5-billion property development pipeline is growing steadily, with about $509 million under construction currently. The stock closed at $60.65, down 1.38%, and yields 3.5%. The price represents a 17% discount from a 52-week high of $73, and an 11% discount to Petrik's estimated NAV of $68 a share. He thinks the shares should trade at a 6% premium over the next 12 months, suggesting a price of $72.

Camden Property Trust (CPT). Camden's largest markets are Washington, D.C., southern California and Las Vegas, but it also has a presence in tough markets such as Florida, Texas and North Carolina. Petrik views Camden's management team as one of the best, and the company's balance sheet is solid. Camden has $740 million worth of property under construction, part of a $2.1 billion total development pipeline. The stock closed at $72.33, up 0.2%, and yields 3.8%. The price is 11% below the stock's 52-week high and 14% below the NAV of its portfolio of properties, which Petrik estimates to be worth $84 a share -- his 12-month price target.



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