The numbers seem to be adding up for real estate investors, yet the sector's equity investments have been taken for a ride by the rest of Wall Street this week. So what's behind this downturn? Nothing that makes sense to most market-watchers.

For years, real estate pros have lamented their low stock valuations on The Street, and with good reason: Despite hefty increases in real estate sector prices over the last 18 months, many issues still boast fundamentals that some feel demand higher pricing.

Developments in the nation's overall economic situation during the past few days have pointed to an improving situation for many real estate companies, and many firms' financial results continue to meet or exceed expectations.

But you would not know that from an examination of the National Association of Real Estate Investment Trusts' index, which shows REITs and other real estate issues down an average of 1.5 percent to 2 percent this month alone.

The coming months, however, may bode well for real estate. Interest rates, which have a direct, powerful impact on real estate earnings, are already low. And a careful review of Federal Reserve Chairman Alan Greenspan's testimony before the Senate Banking Committee Tuesday suggests to some observers that further interest rate decreases may be possible.

Greenspan also pointed to a general change in economic data over recent weeks. The numbers have moved decisively from "persistently negative to more mixed." Yet the overly cautious chairman also warned that the economy still is at risk of a slow recovery.

Yet another major economic turnaround stands to benefit real estate with the dramatic decrease in energy prices. Despite record earnings for oil company giants, energy prices overall are on the decline, meaning improved operating results for real estate companies paying thousands to air condition their properties.

So interest rates are down and falling, plus energy prices are down and falling. Yet real estate stock prices are falling as well? There must be some negative earnings out there, right?

Not this week. For REITs, the basic measure of financial success is an increase in funds from operations. And FFO numbers are looking good for many companies releasing second-quarter results this week.

Take EastGroup Properties, Inc., a REIT focused on industrial properties. For the second quarter, this small firm saw FFO increase 12.6 percent over the same period last year.

Yes, a slowing economy prevented the company from earning even more dough. But low interest rates are helping to balance EastGroup's financial results.

"We are pleased with our double-digit growth in FFO per share for the second quarter, which was achieved in spite of reduced portfolio occupancy levels," said David Hoster II, president and CEO. "The increase in FFO per share is primarily the result of our development program, lower interest rates and increased interest income."

Lexington Corporate Properties Trust (NYSE: LXP) on Wednesday announced that its FFO per share rose 4.5 percent over the same period last year.

Liberty Property Trust (NYSE: LRY) also saw improvements in the second quarter, with FFO up 8.9 percent per share.

"Despite a challenging operating environment, Liberty continues to produce solid earnings growth," said Willard Rouse III, CEO. "We believe this performance is due to the success of our operating strategy, which seeks to create value through the professional, local management of a balanced portfolio, located in markets selected for their stability. We believe that this approach is particularly appropriate in the current climate of economic uncertainty and has enabled us to maintain an occupancy level in Liberty's portfolio which is, on average, substantially higher than market occupancy in the markets Liberty serves."

The only real estate sector clearly with clear signs of suffering showing up on its income statements is lodging, where decreased consumer spending and reduced business travel is taking its toll.

So what will it take to convince the market that real estate stocks remain undervalued? Positive operating results, an economic turnaround, lower interest rates and lower energy costs aren't doing the trick. Barring a direct endorsement from Greenspan himself, it's hard to say.

For more articles by Lesley Hensell, please press here.

Published: July 26, 2001

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