Real estate stocks continue to outperform broader markets with increased chances of rate cut

Real estate stocks outperformed broader markets for the second straight week as the incoming economic data pointed to increased chances of a rate cut in 2024.

The Real Estate Select Sector SPDR ETF (NYSEARCA:XLRE) rose 2.13% during the course of the week to close at 37.81 on Friday, posting gains in three out of five sessions.

Dow Jones Equity All REIT Total Return Index gained 1.86%, while FTSE Nareit All Equity REITs was up 1.73%.

Comparatively, the S&P 500 index increased by merely 1.85% during the week.

The U.S. economy added fewer jobs than expected in April and unemployment ticked up, the U.S. Department of Labor said last week. Meanwhile, the initial jobless claims rose more than expected in the past week.

The Job Openings and Labor Turnover Survey (JOLTS report) had shown that job openings and quit rates had decreased — signs of an easing in the tight labor market. The weaker-than-expected U.S. jobs report bolsters the case for a rate cut, according to Seeking Alpha analyst Kristina Hooper.

Mortgage rates declined after five straight weeks of increase in the wake of a weaker-than-expected jobs report. Mortgage applications rose as interest rates fell.

Meanwhile, Sweden became the latest country in Europe to ease monetary policy this week, making market participants to slightly up their Federal Reserve interest rate cut bets. According to the CME FedWatch tool, the odds of a 25 basis point rate cut in November have now increased to about 45% from around 42% last week.

Earnings Surprise

A total of 3 S&P 500 real estate stocks that reported their quarterly results this week posted an earnings beat.

Realty Income (O) turned in stronger-than-expected revenue in Q1 after completing $598M of investment volume, and its earnings came in slightly higher than expected as its occupancy rate stayed steady. The net-lease REIT reaffirmed its 2024 guidance for normalized FFO.

Simon Property Group (SPG) rose 1.1% after the REIT lifted its 2024 guidance due to strong leasing activity and cash flow growth and increased its quarterly dividend. Notably, the REIT's occupancy rate reduced marginally on a sequential basis to 95.5%.

Equinix (EQIX) surged 11% after the company reported its Q1 results. Q1 AFFO per share came in at $8.86, a 21% increase over the previous quarter, surpassing FactSet consensus of $8.60. EQIX was the best performing S&P 500 real estate stock of the week, followed by Iron Mountain (IRM) and CBRE Group (CBRE).

For next week, American Healthcare REIT (AHR) is expected to report its Q1 results, with a consensus FFO estimate of $0.29 and a consensus revenue estimate of $491.05M.

Separately, a total of 19 REITs are estimated to log dividend increases in Q2, S&P Global Market Intelligence forecasts showed.

Real estate space

With mortgage interest rates above 7%, renters' expectations that they'll ever own a home dropped to the lowest point since the Federal Reserve Bank of New York started surveying consumers in 2014. Most renters consider it somewhat or very difficult to obtain a mortgage.

Expectations for rent increases trended hotter. Consumers' outlook for rent price growth for the next year climbed to 9.7%, up 1.5 pp and the second-highest reading in the series since 2022.

Home prices rose by 4.5% during the four weeks ending May 5 and the supply of homes for sale lost momentum, with prospective sellers jittery about high rates. Home sales fell due to high rates and low supply, according to a report by the real estate brokerage Redfin.

Meanwhile, the delinquency rate for commercial real estate loans rose in 2023 to multiyear highs, the Fed said in a semi-annual report on Bank Supervision and Regulation. The increase in CRE loan delinquencies was mostly due to loans secured by "nonowner-occupied nonfarm nonresidential properties" in banks with at least $100B. Those are buildings including hotels, offices, retail stores, warehouse facilities, and other types of business property.

At large banks, office loans showed the greatest delinquency among property types. However, while banks with total assets of under $100B have lower CRE delinquency rates than the large banks, a larger percentage of their total loans are exposed to the CRE sector, the Fed said.

Fund Flows

Funds flowed out of XLRE this week, demonstrating bearish sentiments among investors in large real estate stocks.

The ETF saw net outflows worth $37.17M this week, compared to inflows worth $36.40M a week ago, according to data solutions provider VettaFi.

Most market analysis is centered around news and economic events. Yet, markets often react opposite of common expectations. We could be setting up a 25% decline in 2024, SA analyst Avi Gilburt said.

Meanwhile, the Quant Rating system changed its rating on XLRE to Sell from Strong Sell. The ratings action considers momentum in the fund's prices. SA analysts continue to grade the ETF as Buy.

Subsector Performance

Health Care remained the biggest winner among the S&P 500 subsectors, with the subsector posting a gain of 2.85% compared to last week. A notable health care mover was Medical Properties Trust (MPW), which saw its largest tenant, Steward Health Care, file bankruptcy proceedings.

Hotel & Resort REITs remained laggards, posting a decline of 1.71% from last week. Host Hotels & Resorts (HST) was the top loser among the S&P 500 real estate stocks, preceded by the data center REIT Digital Realty Trust (DLR).

Here is a look at the subsector performance for the week: