1st Quarter 2014 Commentary - ASTON/Harrison Street Real Estate Fund
1st Quarter 2014
As we Chicagoans like to say, “If you don’t like the weather, wait an hour, it will change.” A parallel may apply to the equity real estate investment trust (REIT) market when comparing 2013 and the first quarter of 2014. REITs (as measured by the Fund’s FTSE/NAREIT All Equity REIT Index benchmark) delivered a distinctly underwhelming total return performance in 2013, lagging the broad-market S&P 500 Index by a substantial margin after several years of strong outperformance. By the close of the first quarter 2014, however, fortunes had shifted again, just like Chicago weather.
The benchmark gained roughly 8.5% compared with 1.8% for the S&P 500. The vacillating returns for REITs had less to do with the enduring theme of growing dividends, modest discounts to net asset value (NAV), rising cash flow per share, and sound underlying commercial property market conditions—the factors important to us, and which were as much present in 2013 as the first quarter of 2014. Instead, market sentiment and interest-rate headlines affected REITs more, further reinforcing that REITs do behave like equities in the short-to-intermediate term.
Despite the recent volatility, we think that if REIT prices reflect their underlying fundamentals the potential for long-term returns remains attractive. The path from now to then, of course, is never a straight line. REITs likely benefited from lower interest rates as yields on 10-year US Treasury bonds retrenched during the quarter. Earnings for REITs were generally in-line to modestly above expectation. None of these forces in isolation, however, should drive an 8.5% return in a single quarter. We think the performance was likely a bit of “mean reversion” after 2013’s overreaction.
Against that backdrop, we think REIT returns appear defensible with additional moderate upside given improving property market fundamentals. Curtailed levels of new competing supply/speculative development, modest discounts to NAV, ample access to capital, and rising cash flow per share, all bode well for the asset class should anticipated dividend increases occur and the earnings streams manifest.
A spike in interest rates could again impair the REIT trajectory, as unanticipated hikes tend to temper investor ardor in the short term. Should interest rates rise gradually in response to quantifiable economic growth, then underlying space demand should ensue and the resultant earnings/cash flow growth generated by REITs would help to offset some of the countervailing forces of higher capitalization rates.
Overall, REITs are trading at a capitalization-weighted 3% average discount to NAV by our calculation—right in the fair value range of a plus or minus 10% premium/discount range within which REITs have traded more than 90% of the time the past two decades.
The Fund itself underperformed the benchmark during the quarter. Strong performances from mid-cap apartment holdings Mid-America Apartment Communities and Camden Property Trust, along with small-cap STAG Industrial aided performance, but not enough to offset two of the larger performance detractors—timber REIT Weyerhauser and data center owner DuPont Fabros Technology.
Harrison Street Securities
As of March 31, 2014, Mid-America Apartment Communities comprised 3.39% of the portfolio's assets, Camden Property Trust – 3.45%, STAG Industrial – 2.51%, Weyerhaeuser – 5.67%, and DuPont Fabros Technology – 3.60%.
Note: The Fund is classified as non-diversified and may be more susceptible to risk than funds that invest more broadly. In addition, REITs may decline from deteriorating economic conditions, changes in the value of the underlying property, and defaults by borrowers. Small- and mid-cap equities are considered riskier than large-cap equities due to greater potential volatility and less liquidity.
Before investing, consider the Fund’s investment objectives, risks, charges, and expenses. Contact 800 992-8151 for a prospectus or summary prospectus containing this and other information. Please, read it carefully. Aston Funds are distributed by Foreside Funds Distributors LLC.