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REITs Off to Shaky Start

January was an arduous month for the REIT market. After returning a handsome 31.5% in 2004, the Morgan Stanley REIT index (RMS) fell 3.5% in January. The sell-off reached a crescendo on January 5--the single worst day for the RMS--when it dropped 3.76%. The RMS finished up 2.4% for February at the end of Tuesday, February 22.

Theories abound on why 2005 began on such a tepid note. They include: investors gobbling up pent-up profits in order to take their gains, a strengthening equities market and, perhaps the most popular culprit, rising interest rates.

One REIT expert cautions that the January slide isn’t a telltale sign of impending doom. In fact, the correction may be part of a healthier long-term process.

“If you look at the first month of the year going back 10 years, there’s usually no correlation between REIT performance in January and the rest of the year,” says Barry Vinocur, publisher of West Coast-based Realty Stock Review.

Still, Vinocur says it’s inevitable that returns will regress to the mean. The trend over the past few years has seen REITs trading well above the 10-year historical average of 15.5%.

Vinocur, like others, doesn’t believe that a 31.5% return is normal. He also scoffs at reading too much into short-term market gyrations. So where does he see REITs trading over the next 5 to 7 years? “We really believe that REITs will return in the low double or high single digits. That still makes REITs the steady eddies of the market,” he says.

One good sign is that fundamentals are improving and REITs are for the most part reporting strong earnings. What’s more, few are forecasting any sudden changes on the horizon. A total of seven REITs will be announcing their fourth-quarter 2004 results this week, among them Crescent and Vornado.

“While one month does not make a trend, it appears that the Fed will continue to raise short-term interest rates through at least the middle of 2005. However, the impact on long-term interest rates is less clear and will be the key driver to the performance of REITs over next several months,” wrote Merrill Lynch analyst Steve Sakwa on Tuesday.

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