Was the real estate sector headed for lower ground before September 11th? Yes. Will it get worse? Probably. Will everything be back to normal next year? Maybe, but don't hold your breath.

So goes the consensus of a group of real estate analysts and executives assembled by the National Association of Real Estate Investment Trusts (NAREIT). Hailing from a cross-section of real estate sectors, these industry insiders stressed that some sectors would suffer far more than others as the economy continues to reel from acts of terrorism and impending war.

Of course, the hardest-hit REITs are lodging companies.

"Industry-wide, RevPAR (revenue per available room) fell dramatically immediately after the acts occurred on Sept. 11," said Rod Petrik, managing director for Legg Mason Wood Walker Inc.

Yet even within the lodging sector, different property types are seeing varying levels of impact. Suburban market, limited-service properties are managing to stave off large decreases in occupancy and revenue per available room (RevPAR).

On the opposite end of the spectrum are upscale, full-service hotels in gateway cities and large central business districts (CBDs), Petrik said. These properties have seen occupancy drop below 40 percent and RevPAR declines of 50 percent compared to this time last year. The unhappy result will be huge earnings reductions for hotel companies this year, along the order of 15 to 20 percent, he added.

But the tide could turn quickly. RevPAR is expected to drop 10 percent to 15 percent for the final months of 2001, with smaller declines for the first quarter of next year. The numbers should then flatten for a quarter, eventually posting modest gains of 3 percent to 4 percent in the third and fourth quarters of 2002.

"In most downturns, lodging stocks are down three to six months and then bounce back," Petrik said. "We expect that could happen here."

Big-name lodging executives have been making trips to Capitol Hill, said John Murray, president and chief operating officer for Hospitality Properties Trust.

"My understanding is that they have not asked for outright grants or direct financial aid as much as they have requested breaks or aid on some tax measures," Murray said. These include investment tax credits and changes in how corporate travel and entertainment expenses are treated.

The multi-family housing market does not expect to see much downside as a result of the terrorist attacks. But already slowing growth will result in less stellar results in the quarters to come, said Paul Puryear, senior vice president of equity research for Raymond James & Associates.

On the demand side, apartment building performance is driven by job growth. And the outlook for jobs is far from promising. While the United States added 2 million new jobs in 2000, the country should lose between 300,000 and 500,000 jobs this year. Plus, there is potential for the numbers to get even worse.

But the apartment sector has not undertaken much construction recently, which should help to keep prices stable. Over the last few years, about 300,000 new units on average have been added to the apartment sector, Puryear said. This number should drop significantly in 2002 perhaps to less than 200,000 units added.

In 1999, funds from operations (FFO) in the multi-family sector grew 11 percent. That number dropped to 10.6 percent in 2000. Now, the 6.4 percent projected growth for 2001 likely will be revised down, while the 8 percent previously expected for 2002 could be reduced to 5 percent.

Retail already was suffering prior to Sept. 11. More than 3,400 stores have been closed so far this year, said Matt Dembski, vice president for Credit Suisse First Boston. Although consumer confidence is falling, most diversified retail real estate firms should come out of this downturn OK.

In fact, falling interest rates may even offset increased vacancies, Dembski said.

One of the safest sectors appears to be the office market. And ironically, CBD properties may fare best of all. This is because CBD offices tend to have the longest leases in place, thereby offsetting short-term impacts that hit retail and other sectors.

Real estate companies will benefit from the sector's restraint, since office properties have not been overbuilt in recent years, said Dennis Alberts, president and chief operating officer for Crescent Real Estate Equities Company.

"The office industry should hold up rather well," Alberts said. "The question is the speed of leasing. Some companies are slowing down expansions. Another factor is credit quality. Class A buildings will fare better with their higher-quality tenants than B and C buildings will with high-tech or telecom tenants."

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Published: October 9, 2001

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