Rising Treasury yields are proving a formidable challenge to the REITS index, a fixed-income proxy.
R EITs are one of the few financials sector subgroups that have trailed both the S&P 500 and the broad U.S. financials sector year-to-date.
The tight inverse correlation in the 10-year Treasury yield and REIT relative performance reflects no wiggle room in valuations, owing to the lagging performance of cash flow drivers. In fact, vacancy rates appear to have troughed, which may reflect burgeoning supply as a consequence of the massive build-out of multi-family apartment units as well as the rush by investors to convert foreclosed homes into rental units. The implication is that rental inflation may face downward pressure. Moreover, the technical picture is also worrying. Relative share price momentum is waning, as measured by the contraction in the 26-week rate of change.
Bottom Line: Our U.S. Equity Strategy team recommends an underweight position in S&P REITs relative to the broad market.