Economy
While commercial properties values have struggled mightily this year KKR is trying to instill shareholder confidence in its $1.2 billion private real estate investment trust. KREST’s struggles are not in isolation as many REITS have faced a two-year downturn due to rising interest rates and decreased investor capital.
To counteract this, KKR announced a shareholder priority plan involving the potential cancellation of up to 7.7 million KREST shares if the net asset value per share drops below $27 by June 2027. This move would increase per-share value by reducing the number of outstanding shares. Additionally, KKR affiliates will inject $50 million of new capital into KREST, demonstrating their commitment to the trust and the real estate market.
KKR's strategy mirrors actions taken by Blackstone last year, aiming to protect non-KKR shareholders from short-term declines while allowing them to benefit from potential real estate recoveries.
Finsum: While commercial real estate has most likely bottomed out, its still tough to say if it will ever recover or if this is the new normal.
In 2023, the housing market reached unprecedented heights, with median home prices soaring to an all-time high of $389,800.
While mortgage rates reached 40-year highs there was still robust demand as the microeconomics of the market continued to put upward pressure on prices. Experts predict that this trend will continue into 2024, as mortgage rates are expected to decline due to the Federal Reserve’s plan to lower benchmark interest rates.
REITs, traded on stock exchanges, allow investors to gain exposure to real estate without direct property ownership. They distribute at least 90% of taxable income to shareholders through dividends.
While real estate investment trusts (REITs) are popular for diversifying portfolios and generating passive income, the private real estate market also offers rewarding opportunities. They can have higher IRR with more active positions but carry increased liquidity risk.
Finsum: Investors should be extra cautious of liquidity risk in high interest rates, but the returns could certainly be worth it.
Real estate investment trusts, known as REITs, are renowned for their attractive dividend yields, as they are legally obligated to distribute 90% of their post-tax earnings to shareholders. However, REITs are highly sensitive to various market factors such as interest rates, inflation, leverage, and regulatory changes, posing liquidity concerns for investors.
While dividend yield is crucial, conservative investors also consider factors like analyst ratings and liquidity when evaluating REITs. The highest-yielding REITs, according to Rick Orford, based on specific criteria, including annual dividend percentage, trading volume, number of analysts, and current analyst ratings are Vici Properties, showcasing notable revenue growth and offering a promising dividend yield of 5.71%. Starwood Property Trust, recognized as the largest commercial mortgage REIT in the US, presents a forward yield of 9.81%, notwithstanding mixed financial performance in 2023. Redwood Trust emerges as a standout contender with the highest forward yield of 11.24% and an optimistic outlook for future earnings growth, bolstered by its diversified investment portfolio.
Finsum: If interest rates have peaked REITs are poised to deliver huge returns in 2024 and 2025.
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Rising inflation and heightened borrowing costs are diminishing the appeal of leveraged private-market investments, but despite these challenges, institutional investors in the Asia-Pacific region remain committed to expanding their allocations in private assets, particularly in real estate and private debt, as highlighted in the firm's recent annual report.
Among the 120 Asia-Pacific-based institutional investors surveyed, 58% anticipate further inflation escalation, while 65% express concerns about elevated borrowing expenses linked to inflation affecting leveraged private-market investments adversely.
However, amid these macroeconomic headwinds, financial institutions in the region remain bullish on private markets and are planning to boost allocations in the short and medium terms, with private debt emerging as a favored asset class. The survey also indicated a growing trend of institutional investors allocating more than 30% of their portfolios to private markets, with approximately 64% planning to elevate their allocations to private real estate in the medium run.
Finsum: Private real estate could be posed for a comeback as interest rates fall and remote work becomes more sparse.
Entering the year, there was optimism around real estate stocks given consensus expectations of rate cuts due to inflation falling to the Fed’s desired level and a weakening economy. However, the economy has defied skeptics and remains resilient, while inflation is plateauing at higher levels. As a result, the Fed will be less dovish than expected, and the market has tapered back expectations for rate cuts to between 1 and 2 by year-end.
Another consequence of the data is that mortgage rates are trending back to last year’s highs, with the 30Y at 6.9%. The real estate sector sank lower following last week’s inflation report, led by self-storage companies, office REITs, and homebuilders on the downside.
Over the past month and YTD, the Real Estate Select SPDR Fund (XLRE) is down 4.6% and 7.8%, respectively. The current environment of rates at a 23-year high is clearly a major headwind. And there are no indications that the status quo will meaningfully change until there is improvement in terms of inflation or more damage to the economy. The impact is evident in terms of Fed futures. At the start of March, odds indicated more than a 50% chance that there would be four or more rate cuts by the end of the year. Now, these odds have plummeted to 5%.
Finsum: Real estate stocks have sunk lower in the last month, along with the odds of aggressive rate cuts by the Fed. As long as ‘higher for longer’ persists, there will be considerable stress for the weakest segments of the real estate market.
Meredith Whitney, who previously forecasted the financial crisis in the mid-2000s, sees downside for the housing market, driven by changes in behavior among younger men. She sees the beginning of a multiyear decline in housing prices as the lower levels of household formation among men negatively impact demand.
On the supply side, she sees more homes for sale due to the aging demographics of homeowners. Whitney’s perspective deviates from the consensus, which sees home prices as remaining elevated due to a lack of supply, coupled with a bulge in demand as Millennials enter their peak consumption years over the next decade. This year, most Wall Street banks are forecasting a mid-single digits increase in home prices.
Another factor impacting housing supply is that the vast majority of mortgages were made at much lower rates. While many asset prices have declined due to the impact of high rates, home prices are an exception. Whitney contends that “normally you would think as rates go up, home prices would go down, and that hasn’t happened over the last two years. I think home prices will normalize because as more inventory and supply come on the market, you’ll see a true clearing price that is lower than it is today. So, I would say 20% lower than it is today.”
Finsum: The consensus view is that home prices will continue rising due to low supply and demographic-driven demand. Meredith Whitney, well-regarded for predicting the financial crisis, is bearish on the asset class.