How Could an Interest Rate Hike Impact REITs?
An 'Appropriate' Rate Hike: Time to Bank on the Financial Sector?
Impact of a rate hike on REITs
Interest rates are inversely related to the REIT sector. A rise in interest rates has a two-fold impact on REITs. First, it leads to a rise in borrowing costs, which impacts REITs’ profitability and ability to make acquisitions. Second, a rise in interest rates makes REITs less attractive as investments. REITs are viewed as dividend-yielding investments. When the yield curve steepens, spreads between treasury yields and dividend yields narrow, thereby making REITs less attractive. If rates do rise this month, a sell-off in REITs may be possible.
However, another way to look at this is in terms of economic growth. A restrictive monetary policy corresponds to increased economic strength, leading to a potential for upward revisions in rent and higher occupancy levels, and thereby a robust net operating income expansion. All of these factors benefit REITs and may mitigate the impact of a higher discount rate. A higher interest rate leads to higher cap rates and discount rates, which lead to lower property values for REITs.
How have REITs reacted to the growing possibility of a rate hike?
REIT ETFs such as the Vanguard REIT ETF (VNQ) and the iShares FTSE Nareit ETF (REM) gained 2% and 0.8% last week. General Growth Properties (GGP), Simon Property Group (SPG), and Public Storage (PSA) gained 1.2%, 1.4%, and 1.1% during the same period.
Browse this series on Market Realist:
