5-11-04                                                                                           Vol. 7: No. 5 RealtyStocks' Observer If you're not receiving this free monthly e-newsletter, please register. Monthly Feature: Good News is Hurting REITs and Both Equity & Debt Markets A. What's Bad about Being Good B. Why Real Estate and REITs are Losing Their Attractiveness C. Lingering Issues D. Equity REIT Performance E. Large Cap REIT Performance F. Mortgage REIT Performance G. Realty Corporations H. Real Estate Mutual Funds A. WHAT'S BAD ABOUT BEING GOOD. The economy is looking good. Corporate earnings continue to be stellar and retail sales were up over 4% in April. Most commodity prices are not increasing and inflation remains benign. The unemployment rate dropped .1% last month and claims for unemployment also recently dropped. Job growth not only exceeded expectations for a second month in a row, with a gain of 288,000 jobs, but March figures were revised up from 308,000 to over 330,000 jobs. What some feared was a blip in job growth last month, appears to be additional validation that the economy is showing strength in one of it's most critical areas, job creation. What's bad about such good news is that the investors are fearful that the better the economic news, the sooner and greater interest rates will rise. This "wait and see" to learn when interest rates will rise seems to be creating a panic attack among some, with trepidations of various scenarios that may occur in the near future. For instance, if the Federal Reserve raises rates to fast, this could actually not only slow economic growth, but could even throw us into another recession. On the flip side, if the Fed is slow to increase rates, there is some concern that the economy may overheat, which could result in a spiraling inflation like the one that occurred in the late 1980's. Though it seemed a stronger economy was the universal hope, now that it's on our doorstep, many investors are running from the front door. Fear of uncertainty is most likely the catalyst behind the current volatility in the debt and equity markets, particularly in such rate sensitive sectors as real estate.   Top B. THE LOSS OF ATTRACTION FOR REAL ESTATE & REITs. Markets react on anticipation. When people begin to feel as though the party is over, in this case, owning bonds or REITs, they can bolt for the exit. This results in a lack of demand and falling prices. However, it may take months or even more than a year to know if these concerns are justified. In the case of home builders, higher interest rates mean that fewer people will be able to afford homes and that the demand for new homes is expected to drop, creating less profits in this industry. Ditto for such industries as mortgage brokers, developers, construction, brokers in sales and leasing, etc. These concerns are certainly understandable. In the case of the broader residential real estate markets, the BIG question is: When will the eventual loss in home values occur, and what impact will this have upon consumer debt and spending power? Though Chairman Greenspan has mentioned that some coastal overpriced markets may be subject to lower prices, he does not view this as a potential problem. However, for anyone that has been involved in real estate for two or three decades and has witnessed the cyclical nature of real estate, they are probably not as complacent as Mr. Greenspan. With rates increasing a full point in just a month, the thought of rates increasing another couple points in the next year or two (or sooner), especially with about a third of all mortgages today being based on adjustable rates, is most disturbing. In the case of REITs, the explanation for their recent decline is somewhat different than other realty stocks. The reasons they may currently be perceived as hot potatoes are fourfold. First, as interest rates in other investments are rising, the dividends paid by REITs seem less attractive, causing investors to move out of this sector. Secondly, though REITs are not normally highly leveraged, usually under 40%, they still will be faced with higher interest expenses and less money for dividend distribution. Thirdly, the fundamentals of most commercial markets still remain week, and the job growth occurring may not cause strong operating performance in certain property type groups in the immediate future, which place more pressure on the dividends REITs distribute. Fourth, as previously mentioned, higher interest rates mean that property values are likely to decline. There is more concern that the underlying value of REITs, which is already significantly less than their market caps, will be falling even more. Unfortunately, in the near term and until interest rates stop increasing, REITs are positioned to have more downside risk. It will probably take at least a couple more quarters, or longer, but eventually the fundamentals behind commercial markets should start to improve in a strong economy, which should push dividends and returns for REITs higher. Therefore, unlike tech stocks, we do not believe REITs will have a price free fall and at worst, should not fall much below their asset values. Top C. LINGERING ISSUES Last week Chairman Greenspan opined that the biggest issue confronting the U.S. economy may be the growing deficit. The larger the deficit becomes, the greater the amount of debt our country needs to finance. In turn, this will also be a factor that will cause interest rates to increase, making it more costly for our country to borrow and making it even more difficult to balance our deficit. China seems intent on trying to curb its explosive growth, which should help keep commodity prices from escalating. However, if the growth in China and elsewhere in the southeast accelerates, commodity prices will probably also start to rise, potentially triggering higher inflation. The price of oil, which reached a 13-year high this past week at $40 a barrel, is of concern for all industries dependent upon this resource. Besides the airline, automotive, resort, vacation and building material industries, other sectors are having their earnings hurt by rising oil prices and will need to increase prices to cover their costs. Some airlines have already implemented fuel surcharges. With rising rates in the U.S., the dollar has also strengthened. This makes our goods more expensive abroad reducing exports and possibly corporate profits. It also becomes more expensive to pay off our debt. A situation that seems less likely to have a quick and favorable ending is in Iraq. The pictures that have surfaced regarding the U.S. military abuse of Iraqi prisoners are creating national and global outrage. It seems inevitable that this will only exacerbate the unrest and animosity the Iraqis feel towards the U.S. It also heightens the fear of a reprisal towards the U.S. Insurgents now have control of certain cities in that country and it appears the U.S. military may not confront this situation for fear that it will create more opposition towards the U.S. These cities also provide a safe harbor for insurgents and appears to be making it much more difficult for the military to progress. With the U.S. apparently losing control of at least parts of Iraq, disruption of Iraqi oil supplies are likely to be more common, resulting in further oil price increases. As we mentioned before, the Iraq situation may well decide the coming presidential election. Should Senator Kerry benefit during the November election from the Iraqi situation, and other issues, his position to concentrate on deficit reductions, which seem destined to increase taxes, could also curb corporate growth. Whether or not these lingering issues have a material affect upon the economy, there seems to be little question that they are contributing to the current pullback in stock and bond prices.   Top D. EQUITY REIT PERFORMANCE Equity REITs tumbled -15.93% in April - one of their worth monthly drops ever. This has not only erased the attractive gains accumulated during the first quarter, but has pushed the appreciation of REITs year-to-date (YTD) for 2004 into negative territory with a loss of -7.39%. Since the beginning of the month when we conducted our survey, most REITs have continued to decline with drops of at least a few percentage points. Despite strong retail sales, the two worst groups for the month were Retail Regional Malls and Retail Malls & Centers, losing -22.03% and -20.87%, respectively. The best performing groups Year-To-Date (YTD) was Retail Regional Malls, losing -2.38%. The worst performing YTD group was MHParks, losing -11.2%. The best performing Equity REITs for April were Roberts Realty Investors (RPI) and Golf Trust of America (GTA), gaining 19.2% and 8.1%, respectively. The worst monthly performers for the month were Winston Hotels (WXH) and Agree Realty Corporations (ADC), losing -90.3% and -24.7%, respectively. The best performing REIT YTD was Roberts Realty Investors (RPI), gaining 30.4%. The worst YTD performer was Winston Hotels (WXH), losing -89.7%, respectively. (Please see Equity Gainers and Losers.).   Top E. LARGE CAP REIT PERFORMANCE Large Cap REITs had a loss of -14.7% for April. All of the Large Cap REITs had negative gains this month. The best large cap performer for April, but still in the negative, was St. Joe Company (JOE) losing -6.2%, respectively. The worst performing large cap REITs for the month were General Growth Properties (GGP), and Public Storage (PSA) falling -23.2%. The best YTD performer is Simon Debartolo Group (SPG) gaining 4%. The worst YTD performer was Public Storage, Inc. (PSA)losing -12.5%. Please see Large Cap REITs.)   Top F. MORTGAGE REIT PERFORMANCE The mortgage sector posted a positive loss of -16.74% for April. The best performing group for April was Commercial Mortgages, losing -15.65%. The best performer for April was Dynex Capital (DX), up 5.7%, respectively. The worst performer was Novastar (NFI) losing -50.9%, respectively. For YTD, the groups lost -6.65%. The best YTD performers were American Residential Inv. Trust (INV) and Dynex Capital (DX), gaining 19.4% and 14.8%, respectively. The worst YTD performers were BRT Realty Trust (BRT) and Novastar Financial (NFI), losing -27.8% and -24.5%. (Please see Mortgage Gainers and Losers.)   Top G. REALTY CORPORATIONS Realty and Housing Corporations had a price loss of -3.17% for April. The best monthly industry performers were Mobile Home Manufacturing Co's gaining 2.6%, followed by Lodging with a gain of 2.39%. The worst monthly performer group was Builders with a loss of -11.3%. The best stock performers for April were Lipid Sciences, Inc. (LIPD), up 22.2% and Cavalier Homes, Inc. (CAV), up 17.7%. The worst monthly performers were Tuts Systems (TUTS) and Dominion Homes (DHOM), down -31.9% and -28.2%, respectively. For YTD, the group gained 10%. The best YTD performers were Price Legacy Corporation (PLRE) and Cavalier Homes, Inc. (CAV), gaining 390.8% and 116.4%. The worst YTD performer was Tuts Systems, Inc. (TUTS), losing -55%, respectively. (Please see Realty Corp. Gainers and Losers.)   Top H. REAL ESTATE MUTUAL FUNDS (REMFs) The average total return for real estate funds for April was similar to the broader REIT performance of about -13.59%. The best performing monthly REMFs were Fidelity Real Estate and Morgan Stanley with returns of -3.25% to -5.03%. The best performing YTD REMFs were Morgan Stanley and Alpine with respective overall returns of 3.77% to 0.58% compared to the YTD average return for all funds of -5.8%. (Please see REMFs.)   Top Stock Changes. no changes. Note: In reporting group percentage changes, stocks that were under $1 are excluded from our calculations. If a stock is under $1 for more than two months, it is subject to removal from our coverage. All gains or losses regarding Realty Stocks are price changes only; dividends are excluded, and are calculated as of the end of each month. Disclaimer: The material provided herein should not be taken as endorsements or recommendations to invest in a stock, fund, a group of stocks or other securities. No guarantee can be made as to the expected performance of such investments. Investors should consult all available information, including data external to RealtyStocks and associated Web sites, and exercise own best judgment before making any investment decisions. The author may have equity positions in some of the companies covered in RealtyStocks, which may change from time to time, and will divulge such information upon request.   Top InRealty Sponsors Inquire about our special advertising banner promotions! E-MAIL: stocks@inrealty.com Copyright ©2004, WebVisers Inc. All rights reserved .