etimes, we have to deliberately seek out the tiny glimmers of good news[/b] in the market. Other times, the positive headline contrasts so dramatically with its surrounding market gloom that it demands to be immediately noticed. In commercial real estate finance right now, we have mortgage default levels threatening to reach a 17-year high (including a recent high-profile default by Red Roof Inn on a $361 million loan), [link=http://www.mortgageorb.com/e107_plugins/content/content.php?content.3801][u]unsurprisingly bleak findings[/u][/link] in the most recent Mortgage Bankers Association data book, and a plethora of other sad stats to view right now. But wait – real estate investment trusts (REITs) just had their best quarter ever? How did this happen? First, a bit of crucial perspective on the amazing REIT run-up: The gains follow a period of extended weakness, of course. As a forgotten 2002 song lyric goes, ‘The deeper the slide,the higher the rise.’ Or, as LaSalle Hotel Properties CEO Jon E. Bortz [link=http://online.wsj.com/article/SB124640975008377401.html][u]remarked to the Wall Street Journal[/u][/link], ‘If you start low enough, it's amazing what can happen.’ Exactly how low were REITs? Six months ago, analysts predicted outright failure for a number of trusts, the WSJ notes. By last March, returns on property-owning REITs had fallen by average of 75% from their 2007 peaks, according to a report from RealEstateInvestor.com (REI). In contrast, for the most recent quarter (measured from April to June), the Dow Jones Equity All REIT Total Return Index rose 28.9% – the biggest quarterly increase for the index since its 1989 debut. Perhaps even more impressively, seven companies posted returns over 100%. With that reassurance, REI says it now believes REITs are ‘perfect for the conservative investor.’ CEO Colin Egbert even forecasts a REIT-led recovery for commercial real estate, because unlike private firms, REITs can raise money by selling securities. ‘REITs will align with equity markets to pay down debt, thus positioning themselves as tools for obtaining new assets in the coming months,’ Egbert says. But at the same time, we're most definitely not out of the woods yet. In a recent report titled ‘U.S. Equity REIT Liquidity Update: Hold the Applause,’ Fitch Ratings warns that a number of challenges continue to threaten REIT performance. Indeed, although the agency believes current positive trends carry merit, at least 10 separate REIT party-killers lurk. Fitch points to ‘tenuous financing available across the capital markets, deteriorating performance in commercial real estate and the sizeable overhang of debt maturities for equity REITs looming in 2011’ as particularly serious caution flags. In addition, ‘limited visibility regarding net operating income capitalization rates continues to stress commercial property values, constraining transaction activity and the magnitude of institutional investor secured debt lending volume,’ Fitch notes. Finally, don't forget the ‘reduced revolving credit facility commitments, limited unsecured bond issuances, a near-dormant U.S. CMBS market, reduced bond tender activity and uncertainties regarding the recent re-equitization wave in the REIT sector’ as potential spoilers. With all of these veritable market weaknesses and future hurdles, can REITs' rise last for long? Should the most recent quarter's performance even merit temporary celebration? Does it signify anything at all for the broader market? Please send your thoughts to lillianj@cmi-online.com. – [b]Jessica Lillian[/b], [i]Commercial Mortgage Insigh
