Despite Dip, Retail REITs
Are Expected to Rise

Retail REITs may be down in the first half of 2005, but analysts remain bullish on the sector, believing that the outstanding performance of retail REITs in past years outweighs any concerns over their recent dip.

In the first quarter of 2005, REITs were down about 7 percent, with regional malls faring slightly better (down 6.8 percent) than community shopping centers (down 9.1 percent) and freestanding malls (down 10.3 percent), according to Paul Adornato, senior analyst at MaxCorp Financial.

But that downturn wasn't entirely unexpected, according to Adornato, who believes that slowdown can be chalked up to profit-taking by investors and concerns about rising interest rates.

"It's not surprising that after years of outperforming, we're having a bit of correction in the sector," he said. "I would even say that it's a good thing that some of the steam has been let out of the market."

Indeed, the last five years have been particularly strong for retail REITs. The 34 retail REITs were up 40.2 percent in 2004, according to the National Association of Real Estate Investment Trusts (NAREIT), a Washington, D.C.-based trade group. Adornato predicts that in 2005 funds from operations (FFO) will rise 10.1 percent for regional malls, 8.0 for community shopping centers and 7 percent for freestanding retail in 2005. In 2006, he expects a 7.9 percent rise for regional malls, 6.6 percent rise for community shopping centers and 3.5 percent rise for freestanding retail.

"All the fundamentals are in place," said Adornato. "There is a generally strong retail environment, a stable economy and few expected bankruptcies, which should translate to reasonable earnings growth."

Jim Sullivan, an analyst with Prudential Securities, singles out mall REITs as the healthiest of all retail REITs because of the continued, strong demand for retail space.

In an April 11 note, he wrote: "The Mall sector has performed in line with overall REIT indexes through the first quarter with an overall share price decline from the start of the year through last Friday's close of 8.2 percent. But as we approach the first quarter earnings season, we are optimistic that mall REITs should outperform given what we estimate to be relatively superior growth prospects."

He expects mall REITs to post per-share FFO growth of 10.3 percent and 9.3 percent, respectively, for 2005 and 2006, versus equity REIT averages of 6.6 percent and 7.4 percent.

Meanwhile, for those who have concerns about anticipated rising interest rates, a spokesman for NAREIT also notes there has been no conclusive evidence that interest rates affect the performance of retail REITs.

"There's the perception that all REITs are interest rate-sensitive, but we don't feel that's the case," said

the spokesman. "We've seen instances when rates rise or fall and REITs aren't affected."

Likewise, MaxCorp Financial's Adornato says a rise in interest rates won't necessarily affect REITs' performance. For newcomers to the sector, Adornato suggests that REITs make up 5 to 10 percent of an investor's portfolio.

When deciding what REIT to purchase, he advises studying the track record of the management team and looking at the portfolio of the properties, questioning, for instance, if the properties are located in geographic regions expected to perform well. Additionally, he suggests that investors should make sure the tenants are financially strong.

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