Buy a House, Sell REITs

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Buy a House, Sell REITs

One of the savviest and most cautious real estate investors says that housing prices have hit bottom but real estate investment trusts could fall a long way.

Mike Winer is nothing if not cautious. Third Avenue Real Estate Value (symbol TAREX), the fund he has managed superbly since its 1998 launch, currently holds 20% of assets in cash. So when Winer says the housing bust is history, I’m loath to dispute him.

Some housing numbers, of course, have already turned up. But with about 25% of homeowners owing more on their mortgages than their houses are worth, I have been worried that we could again see declines in key housing figures.

Plenty of unsold inventory still needs to be absorbed, says Winer, and the direction of real estate prices ultimately depends on where you live (see our slide show of cities where home prices have held up best). But, he adds, “housing prices are ticking up, and finished-lot prices have ticked up a lot.”

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Given the mammoth fall in housing, Winer thinks prices nationwide could shoot up by 10% or more over the next year or so. He’s particularly optimistic about hard-hit areas, such as California and Florida.


Real estate investment trusts are another story. They suffered severely during the bear market but have stormed back along with other stocks -- and then some. The MSCI U.S. REIT index plummeted 70% from October 9, 2007, through March 9, 2009, while Standard & Poor’s 500-stock index tumbled 55%. From the market’s bottom through May 3, REITs skyrocketed 168%, 86 percentage points ahead of the S&P 500’s return.

When I interviewed Winer last September (see Watch for Falling REITS), he was bearish on REITs -- and wrong. Prices subsequently rose further. “I hated most REITs then, and I hate them even more now,” he says. “On multiples of cash flow, REITs are trading at record levels. The market has priced in a very robust recovery in commercial real estate. I’m not as bullish about the timing and strength of that recovery.”

Why? Hundreds of billions of dollars in commercial real estate loans are coming due in the next few years. “Banks can extend and pretend” that property values will rebound, says Winer, who spent decades working in the real estate business before becoming a stock analyst. But the credit markets, he predicts, will take a dimmer view of loans that are included in commercial mortgage-backed securities.

Despite Winer being wrong on REITs, Third Avenue Real Estate Value has posted solid returns. Over the past 12 months through May 3, it returned 51%, and over the past ten years, it returned an annualized 11% (that compares with 54% and an annualized 11% for the average real estate fund). It’s my favorite way to invest in real estate.


Winer’s buy list

The fund holds only two REITs: Vornado Realty (VNO), which owns office and retail properties concentrated in New York City and Washington, D.C., and ProLogis (PLD), which owns warehouse facilities worldwide.

As is often the case, Winer is finding values in places most investors don’t look. For example, unlike most real estate funds, Third Avenue owns a lot of real estate operating companies. In exchange for special tax treatment, REITs must distribute almost all their income annually to shareholders. Winer typically prefers well-run operating companies, which can reinvest their profits.

St. Joe Co. (JOE) is one of Winer’s favorite stocks. The largest private landowner in Florida, St. Joe owns about 600,000 acres in the northwest part of the state. A newly built airport in Panama City, Winer says, “will create commerce and job growth.” That will enable St. Joe to sell lots to developers.


More than half the fund’s assets are overseas, mainly in Asia. It has 8% in Japanese real estate companies. Winer picks stocks company-by-company, so he’s not betting on a turnaround in Japan’s long-stagnant economy. Rather, he thinks publicly traded Japanese real estate companies are simply too cheap. Private commercial properties throw off yields of only 4%, he says, while properties owned by public companies pay twice that. “There’s a huge disconnect.”

He’s also bullish on Hong Kong. He makes a big distinction between Hong Kong and the rest of China, which is wrestling with a real estate bubble in some areas. Hong Kong respects the rule of law, he says, and its economy is similar to Western economies. Plus, Hong Kong is the financial hub of Asia, and Hong Kong’s dollar is pegged to the U.S. greenback.

Steven T. Goldberg (bio) is an investment adviser.