or
Remember me
Back
Q4/24 REAL ESTATE PREVIEW: TARIFF TALK DISTRACTS FROM ENCOURAGING OUTLOOKS
THE TD COWEN INSIGHT
While likely to be overshadowed by macro events, we expect solid Q4 results and positive outlooks as our coverage universe reports over the next 6 weeks. Fundamentals are favourable in most sectors and interest rate headwinds are fading, setting up accelerating AFFO/unit growth through 2026. This is not reflected in current valuations, which are testing rarely seen discounted levels.
A lot has changed, with the REIT Index -7% in the nearly 8 weeks since we published our initial 2025 outlook. Headwinds (and head-fakes?) have been piling up, including a slowing in the pace of expected US interest rate cuts, a Canadian federal election very likely this spring, and most recently the confirmation of US tariffs – immediately followed by a 30-day reprieve.
These have delayed the NAV growth reacceleration that we have been expecting and also convinced many traditional institutional and individual REIT investors to stay on the sidelines for longer. This has all pulled trading valuations to rarely seen discounted levels, with the sector's P/NAV down to 75% (vs. 93% hist. avg. since 2010), while the 9.0% FFO yield and 6.1% FFO yield spread to the 10yr GOC both sit at levels almost never seen outside the 2008-09 GFC, 2015-16 AB/SK recession, and early COVID periods.
We believe the sector is already pricing in much of today's macro uncertainty.
Our REIT Sector Thoughts on Tariffs: Canada received a 30-day reprieve from the 25% tariffs on goods sent to the US that were set to start on Feb 4. For Real Estate, we see recession risk as the main threat from tariffs, along with delayed decision-making in investments and non-residential leasing. Below we provide our sector-specific thoughts:
Seniors is seen as having relatively little risk.
The risk for Apartments is mainly on the potential for reduced employment.
In addition to potentially lower employment, other risks for Retail property include the failure/closure of some smaller or more vulnerable tenancies.
The additional risk for Office space is that higher interest rates and inflation could further crimp space demand.
In addition to some of these risks, Industrial property is seen as having more exposure to businesses and industries more directly involved in cross-border trade (e.g., auto manufacturing). A potential offsetting positive is higher space demand by businesses seeking to improve certainty and supply chain resilience.
Accelerating AFFO Growth: Excluding Seniors Housing, we forecast +3.4% average y/y AFFO/unit growth in Q4, with the Residential and Retail sectors helping to push growth up from 2.4% in Q3. Overall sustained strong NOI growth plus an easing interest cost burden combine to support our forecast of several more upcoming quarters of accelerating AFFO growth (Fig. 3). Avg per-unit interest expense is seen +5% y/y in Q4, down from a +10% in Q1-Q3. Following three years of decelerating AFFO growth for REITs, we forecast accelerating growth now through 2026 (Fig. 4).
Including our still-elevated forecasted growth of +19% for Seniors, our overall sector forecast AFFO/unit growth is 4.8% compared to 4.4% in Q3. Residential is second in Q4E AFFO growth, while Industrial REITs are expected to deliver above-avg growth starting in Q1/25. See Figures 1 and 2 for our estimates and conference call details, and here for our separate Residential preview.
Our preferences: Our Real Estate sector investing pecking order is Retail, Seniors Housing, Apartments, Industrial, Office, followed by Diversified.
Our top larger-cap picks are REI.un, CSH.un, BEI.un, FCR.un, and KMP.un. Our top smaller-cap picks are MI.un, DRM, and HOM.u.
