Apartments Don't Fulfill
Analysts' Expectations

As the economy began cooling late last year, a number of real-estate executives and analysts predicted that apartments would be among the least vulnerable assets in the event of a prolonged slowdown.

But a look at apartment REITs' stock charts tells a much more complicated story.

Despite strong occupancy and rental rates, solid earnings and the argument that more people will put off buying a home in a slowing economy and rent apartments instead, multifamily real-estate-investment-trust stocks have been turning in one of the industry's most lackluster performances so far this year.

"Although we believe apartment assets are defensive, apartment assets are different animals than apartment REITs, and behave differently in an economic downturn," says Robert Stevenson, analyst at Morgan Stanley. "In addition to being property owners and operators, apartment REITs are also stocks, which are more volatile than direct property ownership."

Apartment REITs returned a dismal 0.3% to investors year-to-date as of Thursday's market close, according to Morgan Stanley, which issues its weekly research reports on Fridays. Meanwhile, mall REITs, perceived as the most vulnerable in the event of an economic slowdown because consumers are expected to spend less, rose 19%. Equity REITs in general returned an average of 4.1% to investors.

One explanation for the disconnect, Mr. Stevenson says, may be the run-up of apartment REIT stock prices that occurred in the fourth quarter of 2000, as anxious investors flocked to stocks that were expected to be safe bets in a weak economy.

"The [stock-price] valuations got to be pretty heady," says Mr. Stevenson, whose firm downgraded the sector to "market weight" from "overweight" in January. "It was hard to find a catalyst that would drive the stock prices higher," he says. "They had hit peak levels."

Take Equity Residential Properties Trust, the nation's largest apartment REIT based on market capitalization. The company's shares reached a 52-week high of $57.25 on Dec. 28, during the height of apartment REITs' stock rally. By February, the stock had fallen to $49. Since then, the stock hasn't traded above $55.

"This stock market for so many people has turned into a gambling casino," says Douglas Crocker II, chief executive of Chicago-based Equity Residential. "So what you get are these sector moves where the stocks get run up and then [investors] take their profits and move the stock back down again and maybe go into retail."

Some analysts also point to the Federal Reserve's aggressive interest-rate cuts so far this year and the expectation of additional rate cuts as another factor. The reduction in rates could lead more people to buy homes, instead of renting apartments, which would hurt multifamily REITs.

Others think the disconnect has less to do with the companies. After all, the REIT industry suffered a bear market in 1998 and 1999. Back then, companies' fundamentals were strong but investor interest was weak, particularly as technology stocks were all the rage.

"I don't think there is one answer," says David Cardwell, vice president of finance and technology at the National Multi Housing Council, a Washington, D.C., organization that represents the nation's leading apartment firms. "It's an interesting phenomenon. It might be something that just can't be explained."

Some analysts see a silver lining. "Now, we are able to find some attractive investment opportunities in the apartment sector," says Craig Leupold, apartment analyst at Green Street Advisors.

But that may offer little comfort to apartment REIT executives. "Who wouldn't this frustrate?" says Steven R. LeBlanc, president and chief operating officer of Summit Properties Inc. in Charlotte, N.C. The REIT's stock traded in the $23 to $24 range in May, "about a 12% discount to our net-asset value," he says, "when occupancy and rental rates in our markets are good."

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