The coronavirus seems bent on accelerating trends in real estate that were already under way.
Designating businesses as “essential” or “non-essential”, for example, has deepened the existential crisis of malls, a group that was already getting squeezed by the so-called retail apocalypse of recent years. Mall owners reportedly collected less than 25% of rents they were owed during the months of lockdown because many non-essential retail tenants were unable to pay their rent. It is hard to pay dividends to your investors if you’re not collecting the rents, which is why a bell weather mall REIT like Simon Property Group (SPG) has lost 60% its value this year.
Meanwhile, the rapid establishment of virtual offices and schoolrooms following stay-at-home orders have allowed data centers to keep riding the substantial secular tailwinds of cloud computing. Having collected all their rent this year and reported lease spreads over 20%, date center REITs like Equinix (EQIX) have returned more than 25% YTD, beating the S&P 500’s flat returns over the same period.
Somewhere between the winning data centers and the troubled malls are two sectors that have fared ok enough during the pandemic, but whose prospects are now looking shaky in the near-to-medium term: Office REITs and student housing REITs.
Office REITs Face Secular Headwinds on Growing WFH Trend
The number of Americans working from home has tripled from 16% of the labor force in 2019 to just over 50% today, according to a survey by polling firm Gallup. While half of these work-from-home cases are expected back at the workplace come September, that would still leave nearly 25% of America’s workforce operating remotely after Labor Day and beyond.
Major technology companies, including Facebook and Google, have already told employees they can work from home until the end of 2020 or early 2021. Twitter and Square, both headed by CEO Jack Dorsey, have gone a step further and will allow employees to work from home permanently. Meanwhile, Mark Zuckerberg predicts that 50% of Facebook employees could be working remotely within the next five to 10 years.
Obviously, there are still many types of jobs that cannot be performed remotely. A new paper by the International Monetary Fund (IMF) investigates the feasibility to work from home and found that 15% of the workforce cannot perform their duties remotely. Some experts attribute an even higher percentage to work that cannot be done via the cloud.
But, given the way things are progressing, tens of millions of Americans could be working from home permanently or rotating between home office and company office this time next year, even if a COVID-19 vaccine becomes available to all. Thanks to the great work-from-home experiment of 2020, the tools, and perhaps more importantly the culture, are now in place to support greater flexibility in terms of both location and even work schedules.
Some companies including Microsoft have warned that, in time, remote work could put a dent in productivity, employee unity or company culture. Nevertheless, executives have already begun to calculate how much money they could save by sizing down office space in big cities. About one in four financial and professional-services companies in New York City are planning to trim their footprints by at least 20%, and about 16% expect to move jobs out of the city, a recent study by the Partnership for New York City found.
These changes could impact the performance of office REITs in the short-to-medium term, or at least until the market adapts and finds some other use for the growing number of empty spaces. Office REITs own and manage office real estate and rent space in those properties to tenants. The properties can range from skyscrapers in urban centers to office parks in suburban areas.
The sector has withstood the pandemic relatively well this year, aided by the trillions of dollars in fiscal stimulus that have made rent collection possible. But the outlook could deteriorate if the stay-at-home economy persists beyond the summer and previous stimulus measures aren’t renewed, or if permanent work from trend catches on faster than anticipated.
There are many publicly-traded office REITs operating in the U.S., including Boston Properties Inc (BXP), Columbia Property Trust Inc (CXP), Mack-Cali Realty Corp (CLI),
SL Green Realty (SLG) and Hudson Pacific Properties (HPP). Boston Properties, the largest player in the space, invests in office buildings in Boston, Los Angeles, New York City, and Washington DC. Even though rent receipts have not dropped substantially, BXP’s stock is still down 34 YTD, reflecting concerns about the longer-term adoption of remote working.
Student Housing REITs Test Binary Outcome in Upcoming School Year
Similar to the challenges that await office REITs if virtual offices take off, the student housing real estate sector will face some new trials if remote classrooms catch on in the academic world. Student housing has long been a favorite of REIT investors due to the perception that the sector is recession resistant. But that was before COVID-19 shut down college campuses this spring and forced schools to revise their classroom formats for the upcoming fall semester. Concerns that demand for student housing will collapse as universities shift classes online have left investors suddenly feeling nervous about the space.
American Campus Communities (ACC), the leading provider of high-end student housing on and near college campuses around the country, also happens to be the only publicly-traded REIT focused on this residential subsector. The company owns over 110,000 beds distributed across 166 student housing properties. Many are located close to major university campuses in the sunbelt, including hard-hit Covid-19 states like Arizona, Florida, and Texas. Take Arizona State University, for instance. At this massive school system, which enrolled nearly 90,000 students last year, 15% of the student body lives in American Campus Communities properties.
Like almost every REIT sector, with the notable exception of industrial REITs and data center REITs, ACC’s share price has taken a beating in 2020 and is still down 27% year-to-date. Even the company’s announcement last week that its properties are 90.1% preleased for the coming 2020-2021 academic year failed to move investors who are waiting to see what actual move-ins and final occupancy rates will look like when schools reopen a month from now.
Most of the country’s other leading student housing owners are private real estate companies such as Greystar and Harrison Street. Motley Fool contributing writer Matthew DiLallo has posited that, with COVID-19 shutting down schools, some of these private real estate companies may try to cash out by either taking their student housing portfolios public or selling them to other REITs.
Citigroup analyst Nicholas Joseph may have summed up the opportunity best when he expressed the following: “While almost all REITs are being impacted by Covid-19 ― we continue to view ACC as having the most binary near-term outcome based off of what happens with school re-openings this fall.”
In other words, investors who believe college students will stay home this fall would want to be short student housing REITs, while those who want to bet on students mostly returning to campus would want to be long this sector now.
Managing Director, Research
McAlinden Research Partners