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ublicly traded Real Estate Investment Trusts (REITs) offer investors a way to add real estate exposure to their portfolios and diversify their investments. However, some larger investors have taken this strategy further by using REITs as part of a "completion portfolio" approach to gain access to property types like data centers, life sciences, and other sectors that are harder to reach through traditional means.
This tactic is primarily used by large institutions, but it's also accessible to individual investors looking to round out their real estate exposures. Norges Bank Investment Management, which manages the Government Pension Fund Global on behalf of Norway, is a prominent example of this approach. The fund allocates $58 billion to real estate globally, with its private sleeve focused on office, logistics, and retail properties, while its public investments are more diversified.
Another example is an Australian superannuation fund that used REITs globally to complement its existing domestic portfolio, which only included office, retail, and industrial properties. This approach allowed the fund to gain exposure to new geographies and property types not available on the private side.
The spread between private and public real estate valuations has narrowed in recent years, contributing to a prolonged slowdown in the transaction market. However, with interest rates normalizing, this could lead to an uptick in deal activity. According to Ed Pierzak, Nareit's senior vice president of research, the narrowing gap between public and private REIT valuations is significant, as it has finally reached a point where it will likely sit at around 60 basis points.
This development is crucial because historically, when the spread exceeds 100 basis points, it tends to be an issue for transaction markets. With the current spread below this threshold, markets can act as if they are in sync. As a result, REITs are well-positioned to acquire assets, with favorable balance sheet positions and access to cost-effective debt.
Regarding recent REIT performance, Pierzak notes that the decline in October was largely due to the rise in Treasury yields. However, REITs continue to be in excellent shape, with leverage ratios dropping to around 30% and weighted average costs of debt remaining stable. The narrowing cap rate gap between public and private REITs is also a positive sign for the transaction market.
Finally, Pierzak comments on the election results, stating that while there may be some uncertainty, the fact that there is now certainty with a President-elect has calmed things down. However, he cannot speak to any potential impacts on REITs at this time.
