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Zacks Industry Outlook Highlights Prologis, Extra Space Storage and Host Hotels & Resorts

·12 min read

For Immediate Release

Chicago, IL – July 18, 2022 – Today, Zacks Equity Research discusses Prologis, Inc. PLD, Extra Space Storage Inc. EXR and Host Hotels & Resorts, Inc. HST.

Industry: Equity REIT

Link: https://www.zacks.com/commentary/1952779/3-equity-reit-stocks-poised-to-gain-from-the-industry-rebound

The REIT and Equity Trust - Other industry is poised to benefit from improvement in the fundamentals of the real estate market since the onset of the pandemic. With the industry offering the real estate structure for several economic activities, be it real or virtual, there are several pockets of strength.

With the healthy fundamentals of the digital economy, migration trends, easing of restrictions and improving lodging industry fundamentals and favorable demographic trends, Prologis, Inc., Extra Space Storage Inc. and Host Hotels & Resorts, Inc. are likely to benefit. While there are concerns stemming from rate hikes to tame inflation, geopolitical issues and the outlook for economic growth, it needs to be noted that REITs generally offer protection against inflation as both rents and values of real estate have a tendency to increase when prices climb.

About the Industry

The Zacks REIT and Equity Trust - Other industry is a diversified group that covers REIT stocks from different asset categories like industrial, office, lodging, healthcare, self-storage, data centers, infrastructures and others. The Equity REITs rent spaces in these properties to tenants and earn rental incomes.

Economic growth plays a pivotal role for the real estate sector as economic expansion translates into greater demand for real estate, higher occupancy levels and landlords' increased power to ask for higher rents. Also, the performance of Equity REITs depends on the underlying asset dynamics and location of properties.

So, delving into the fundamentals of these asset categories is essential before making any investment decision. It is important to figure out whether the pandemic-induced behaviors result in only a short-term impact or long-term structural changes.

What's Shaping the Future of the REIT and Equity Trust - Other Industry?

Demand for Certain Asset Categories to Remain Robust: Even as pandemic fears are waning, the shift from in-person communication and commerce to the electronic platform that gathered speed during the pandemic is expected to continue. Therefore, sectors like industrial, infrastructure and data centers, which support the digital economy, are likely to continue prospering in the foreseeable future.

Over the long term, apart from the fast adoption of e-commerce, logistics real estate is expected to benefit from a likely increase in inventory levels. Growing reliance on technology and acceleration in digital transformation strategies by enterprises are offering immense opportunities to the data centers and infrastructure REITs.

Migration and downsizing trends, remodeling and an increase in the number of people renting homes have escalated the needs of consumers to rent space at a storage facility to park their possessions, benefiting the self-storage REITs. Moreover, demand for life-science real estate has been solid and will likely remain so with effective diagnostics, testing, therapies and vaccines being required to fight the pandemic.

Recovering Fundamentals of Property Types Affected by the Pandemic: The rebound in commercial real estate is imbalanced across sectors, with some leading the overall economy and some picking pace later on. What is now encouraging is that a number of property types, which once faced a severe blow because of the pandemic, are now on the path to recovery.

There is increased optimism backed by the rebounding fundamentals of the lodging industry, with strong leisure demand and improving levels of corporate and group demand. Also, the healthcare REITs, which are poised to benefit from the strong demographic demands amid the aging of the baby boomer generation, are experiencing an improvement in occupancy in senior housing assets due to widespread vaccination drives.

Moreover, office REITs, which were hit hard by the pandemic-led job cuts and remote working environment, are expected to gradually benefit from the increase in office-using employment. There is an improvement in total leasing activity, a decline in short-term renewals and an increase in lease lengths, indicating improving prospects for the office REITs.

Inflation Protection and Balance Sheet Strengthening: Moreover, REITs offer natural protection against inflation as both rents and values of real estate have a tendency to increase when prices climb. In fact, over the last 20 years, REIT dividends have mostly surpassed inflation as measured by the Consumer Price Index, making them an apt choice right now.

Furthermore, over the years, REITs have managed their balance sheets efficiently and are now well prepared for a rising rate environment. Instead of looking for debt to finance the portfolios, these companies have strategically resorted to equity capital over the past decade. This has helped the balance sheets of the overall REIT industry to become less leveraged in decades.

Rate Hike, Geopolitical Tension Raise Concerns: However, a hike in interest rate to tame inflationary issues is a concern because the dependence of REITs on debt for business is more compared to other industries, and this makes investors skeptical about their performance in a rising rate environment. Also, as the investment world treats REITs as bond substitutes for their high and consistent dividend-paying nature, these companies are susceptible to rising rates. This is why REITs' price performance tends to fluctuate when the Fed is optimistic about raising rates.

Moreover, the Ukraine crisis and the resulting sanctions on Russia have affected the commodities market, thereby fueling inflation. Also, the downside risk to the outlook for economic growth has increased. This has raised concerns about REITs' performance as economic growth plays a pivotal role in shaping the demand for real estate properties.

Inflationary Pressures and Supply-Chain Woes: Inflationary pressures and supply-chain woes are expected to push property operating expenses higher. With a strong labor market, a robust development environment and continued supply-chain issues, personnel and repairs, and maintenance and material costs are expected to climb up.

Zacks Industry Rank Indicates Bright Prospects

The Zacks REIT and Equity Trust - Other industry is housed within the broader Finance sector. It carries a Zacks Industry Rank #83, which places it at the top 33% of more than 250 Zacks industries.

The group's Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry's positioning in the top 50% of the Zacks-ranked industries is a result of the positive funds from operations (FFO) per share outlook for the constituent companies in aggregate. Looking at the aggregate FFO per share estimate revisions, it appears that analysts are gaining confidence in this group's growth potential of late. Over the past year, the industry's FFO per share estimates for 2022 have moved 1.4% north.

Before we present a few stocks that you might want to consider for your portfolio, let's take a look at the industry's recent stock-market performance and valuation picture.

Industry Lags on Stock Market Performance

The REIT and Equity Trust - Other Industry has underperformed both the S&P 500 composite as well as the broader Zacks Finance sector in a year's time.

The industry has declined 15.3%, during this period, compared with the S&P 500's fall of 12.9%. Meanwhile, the broader Finance sector has declined 14.6%.

Industry's Current Valuation

On the basis of the forward 12-month price-to-FFO ratio, which is a commonly-used multiple for valuing REIT - Others, we see that the industry is currently trading at 16.53X compared with the S&P 500's forward 12-month price-to-earnings (P/E) of 16.29X. The industry is trading above the Finance sector's forward 12-month P/E of 12.81X.

Over the last five years, the industry has traded as high as 22.46X, as low as 14.76X, with a median of 17.75X.

3 Equity REIT - Others Stocks Worth Betting On

Prologis: This is a leading industrial REIT that acquires, develops, operates and manages industrial properties in the United States and worldwide. The company continues to benefit from the scale of its platform.

The second quarter was notable, with Prologis announcing a definitive merger agreement in June to acquire Duke Realty Corporation DRE in an all-stock transaction valued at $26 billion, including the assumption of debt. The transaction for Duke Realty's purchase is expected to be complete in the fourth quarter of 2022, subject to the approval of the shareholders of both the companies and other customary closing conditions.

This industrial REIT behemoth's performance in recent quarters reflects robust demand for its properties, an increase in market rents and low vacancies. Along with the fast adoption of e-commerce, logistics real estate is anticipated to gain from a rise in inventory levels. Given Prologis' capacity to offer high-quality facilities in key markets and robust balance-sheet strength, it is well poised to bank on these trends.

PLD, currently, carries a Zacks Rank #2 (Buy). Over the past month, the Zacks Consensus Estimate for 2022 FFO per share witnessed marginal upward revision to $5.16, reflecting analysts' bullish outlook. Prologis' long-term growth rate is projected at 9.8%, ahead of the industry average of 7%. The stock has also rallied 5.7% over the past month.

You can see the complete list of today's Zacks #1 Rank (Strong Buy) stocks here.

Extra Space Storage: This REIT offers a vast array of well-located storage units to its customers, including boat storage, recreational vehicle storage and business storage. EXR has earned a solid recognition in the self-storage industry and emerged as the second-largest self-storage owner and operator, and the largest self-storage management company in the United States.

The self-storage asset category is basically need-based and recession-resilient in nature. This asset class has low capital-expenditure requirements and generates high operating margins. Additionally, the self-storage industry continues to benefit from favorable demographic changes. The migration and downsizing trend and an increase in the number of people renting homes have escalated the needs of consumers to rent space at a storage facility to park their possessions.

Amid these, Extra Space Storage is well-poised to benefit from a high brand value, a diversified portfolio and its presence in the key cities of the United States. It also focuses on expansion through accretive acquisitions, mutually beneficial joint-venture partnerships and a third-party management platform. EXR's healthy balance sheet position acts as a tailwind.

Extra Space Storage currently carries a Zacks Rank #1. The Zacks Consensus Estimate for Extra Space Storage's 2022 FFO per share has moved marginally upward in the past month to $8.26, reflecting positive sentiments. Extra Space Storage's long-term growth rate is projected at 7.7%. The stock has also rallied 4.7% over the past month.

Host Hotels & Resorts, Inc.: It is the largest lodging REIT and one of the leading owners of luxury and upper-upscale hotels. HST is poised to gain from its well-located properties in markets with strong demand drivers.

This increased optimism is backed by the rebounding fundamentals of the lodging industry, with strong leisure demand and improving levels of corporate and group demand across its markets, and its capacity to leverage growth potential. Therefore, with sustained strength in leisure and group and business transient continuing to improve in its urban markets, Host Hotels is poised to experience sequential improvement in revenue per available room (RevPAR) and ride the growth curve.

Additionally, the recent trend in estimate revisions for 2022 FFO per share indicates a favorable outlook for HST, with estimates moving 5.1% north over the past two months to $1.65. This also indicates a significant year-over-year increase. HST, currently, carries a Zacks Rank #2. While the company's shares have declined 5.7% over the past month, this can offer a good entry point.

Note: Funds from operations (FFO) is a widely used metric to gauge the performance of REITs rather than net income as it indicates cash flow from their operations. FFO is obtained after adding depreciation and amortization to earnings and subtracting the gains on sales.

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss. This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of herein and is subject to change without notice. Any views or opinions expressed may not reflect those of the firm as a whole. Zacks Investment Research does not engage in investment banking, market making or asset management activities of any securities. These returns are from hypothetical portfolios consisting of stocks with Zacks Rank = 1 that were rebalanced monthly with zero transaction costs. These are not the returns of actual portfolios of stocks. The S&P 500 is an unmanaged index. Visit https://www.zacks.com/performance for information about the performance numbers displayed in this press release.


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