Access to unsecured debt is improving for U.S. equity real estate investment trusts (REITs), according to Fitch Ratings in a new report.
Though concentrated among select issuers, the upswing has been taking place since the second quarter of this year. If more REITs are able to gain access to unsecured debt over time, Fitch may revise its Outlook on the U.S. equity REIT sector to stable from negative.
Given the demonstrated ability by many REITs to raise common equity through follow-on offerings coupled with unsecured bond issuance activity, Fitch's rating actions over the near term will be driven by REITs' liquidity positions along with other credit considerations collectively, as opposed to liquidity primarily.
"Though liquidity may be more of a concern for certain REITs with more sizeable shortfalls, liquidity across the U.S. equity REIT sector is improving modestly," says Steven Marks, Fitch's managing director and U.S. REIT group head. "Maintaining a liquidity surplus remains a key factor for Fitch's equity REIT ratings."
REIT unsecured bond issuance volume and terms have improved materially, with 62% of $6.7 billion in unsecured bond issuance year-to-date taking place after June 30. Credit spreads over comparable treasuries on such transactions narrowed by 235 basis points at issuance relative to transactions prior to June 30, enabling more opportunities for transactions acceptable to REITs, Fitch says.
Additionally, after June 30, REITs raised approximately $1.5 billion in equity offerings, bringing equity issuance across the sector to $14.4 billion year-to-date.
"The market's acceptance of these transactions has enabled REITs to reduce leverage, as well as strengthen liquidity," says Marks. "However, REITs may be reluctant to continue such issuance due to the impact of further dilution to the extent such offerings are more defensive or liquidity-enhancing, as opposed to acquisition-driven, which is a concern."
The commercial mortgage-backed securities market faces continued challenges, while pension funds, insurance companies and other secured lenders are reducing secured lending activity. Despite this concern, REITs continue to demonstrate access to the mortgage financing market.
While most REITs are refinancing mortgages on more onerous terms, secured lenders' asset and sponsor selectivity has favored publicly traded REITs' portfolios. As such, Fitch has enhanced its approach towards analyzing REIT liquidity by including sensitivities addressing various scenarios of refinancing prospects for REITs' upcoming secured debt maturities.
The median of REITs' liquidity cover, defined as sources of liquidity divided by uses of liquidity for the projection period of July 1, 2009, to Dec. 31, 2011, is 1.1 times. This level indicates that most REITs with investment-grade ratings have liquidity surpluses over the next two-and-a-half years, which is beyond the 12-to-24 month time frame Fitch has typically assessed.
"REITs are not immune from recent headline risk regarding ongoing commercial real estate fundamental challenges," Marks adds. "However, REITs are set apart from other commercial property owners from a contingent liquidity standpoint."
SOURCE: Fitch Ratings