Investing.com — BCA Research told investors in a recent note to be cautious about the recent rally in the real estate sector, which has been the best-performing sector in the United States, led by distressed sectors such as office REITs.
However, BCA analysts warn that this momentum may not be sustainable.
While real estate dividend yields appear attractive amid falling interest rates, BCA says there are several challenges that could impact the sector.
“REITs will struggle if economic growth falters despite interest rate cuts,” the note explains.
BCA explains that historically, REITs have tended to outperform just before the first rate cut but consolidate their gains shortly afterwards, a pattern investors should keep in mind.
Fundamentally, BCA says the outlook for real estate is mixed. While balance sheets remain healthy, the company points out that “net operating income is slowing” and margins have only returned to pre-pandemic levels.
Moreover, pandemic-related disruptions within the sector are said to have caused unrest, which is now spreading.
BCA recommends investors underweight certain subsectors, including industrial REITs, which are facing pressure from a manufacturing slowdown and slower online retail sales, as well as residential REITs, which are dominated by multifamily properties that are struggling with overbuilding, slow rental growth and increasing payment arrears.
BCA adds that the Office REITs subsector is also facing headwinds due to high vacancy rates and increasing distressed loans.
The research firm suggests an overweight position in specialty REITs, which offer exposure to the digital economy.
“Underweight real estate over a tactical investment horizon,” says BCA. advises to maintain an underweight position in real estate in the short term, in the expectation that economic growth will slow down. We expect economic growth to slow, and even lower interest rates will not benefit the sector in such circumstances. Moreover, default rates are increasing and expanding across subsectors, which does not bode well for industry performance.”
