There is an interesting discussion going on right now on the internet about the future of REITs, specifically mall REITs.
The discussion began when Bill Ackman (who made a lot of headlines after profitably betting on the downturn) gave a presentation, the summary of which can be found here (link to The Business Insider). The presentation was titled “If you wait for the robins, spring will be over,” and basically he argued that REITs are terribly undervalued because investors are not taking into account a recovery in retail spending (we have covered retail twice before, here (Nov 25) and here (Oct 19)). The presentation began with a few slides about the economic recovery, about the reversal in unemployment, GDP decline, and Bernanke’s comment that the recession is “most likely over.” The meat of his presentation revolves around how the smart money has been piling into REIT Equity and Debt investments for months now. He mentions how few bankruptcies have gone into Chapter 11, that instead there have been no apparent shortage of “white knight” investors. He then references a Citigroup report that predicted holiday sales increasing by 2.5% YoY, and finishes up by asking whether investors would rather hold Treasuries with the incredibly low yields, or a REIT stock with 6-7% Cap Rates, the assumption being that REITs currently offer great risk/reward ratios.
The counter argument, presented by Hovde Capital Advisors (found here, again via The Business Insider), focuses mainly on the consumer retrenchment that is going on as a result of the economic downturn. In the presentation, slides show the uptick in the savings rate which is trending back towards the long-term average, the decline in available consumer credit including home equity, and how online sales are increasing as a percentage of overall sales as consumers focus on value per dollar spent. The summary is that non-mall retailers (WMT, COST, TGT) and online stores (AMZN) offer better value, and consumers are flocking to them. They then go into financial statement analysis, using General Growth Partners (GGP) as a representative sample, and show that cash flows have decreased by 27% since last year, new rental rates are significantly lower than existing rents, and that Bill Ackman’s data on Cap Rates is old given recent transactions.
My analysis is that yes, Bill Ackman is correct in saying that the economy is improving, or at least stabilizing. However, it is hard to believe that consumers will revert to their pre-financial crisis levels of spending, at least in the short term. I believe we still have years of low consumer confidence and spending to slog through as people reflect on their tired balance sheets, and concentrate on building equity. Certainly, history has shown that people do not generally learn from their mistakes, and “history is doomed to repeat itself.” Over time, consumer confidence will recover and people will start spending again. But it will be a tough slog for mall retailers, and that will make REITs suffer. Because there is so much consumer flight to online retail, I give about a 40% chance that the age of the mega-mall has died (honestly…good riddance) to be replaced by smaller outlets and online stores. To make money from this trade, I would not invest in Amazon (right now at least, see my previous post), but I would invest in healthy non-mall brick-and-mortar retailers that have a strong presence online (WMT is a great example). REITs are by no means a safe bet right now.
Disclosure: Long TGT, no position in any other stock mentioned.
Amazon’s (AMZN) stock reached a new, all-time high of 135.91 today after having another successful day, finishing up over 3% on a choppy day of trading. What is going on, and why does it deserve a Price-To-Earnings Multiple of close to 80?
Certainly, we can look at the obvious trends that have been taking place over the past decade or so. The slow (or not so slow) decline of brick-and-mortar is well documented, as is the amazing, almost parabolic, rise of online e-commerce. The large overhead and real estate costs of running a physical store put shops like Macy’s (M), Target (TGT) and Borders (BGP) at a disadvantage when it comes to pricing. Add to that the advantage that customers in most states do not pay sales tax for online purchases (although this may change), and the advantages of Internet shopping are huge.
But, based on this years earning expectations of 1.88, AMZN is trading at a multiple of 72 as of todays close. Granted, this is lower than was found during the bubble years but they have real revenue now and far lower growth prospects. Analysts expect the company to grow by 25% per year, which in the next 5 years would give AMZN a market cap of about $180bn, equivalent to Apple (AAPL), Google (GOOG), or Proctor & Gamble (PG) today.
I could not think more highly of Amazon the company. They have proven resiliant, resourceful and innovative in their highly competitive market. They refuse to rest on their successes, as shown by their unveiling of the Kindle; a product that is making people take E-Readers seriously for the first time. And I believe that the company will show continued success. AMZN the stock, however, has gone too far. There are less pricey ways to play the shift to E-Commerce (Fedex (FDX) and UPS (UPS) spring to mind), but frankly, this whole e-shopping trade is getting too crowded for my blood.
Disclosure: Long TGT, no positions in any other stock mentioned.
With the unofficial unemployment rates approaching 20%, consumer confidence at 60% its normal level, and retail sales showing only slight percentage increases over abysmally low levels, one would be forgiven for having a low amount of confidence in consumer spending juicing the economy this holiday season. Add to this the declining levels of credit available to consumers, and a generally bad attitude towards taking on more debt as consumers retrench (especially those 25% of mortgage-holders who are underwater in their mortgage), and it looks like we are in for a rough post-thanksgiving period.
But, is it actually going to be that bad?
Last year, despite Thanksgiving weekend finding itself a few weeks after the start of the worst financial crises since the Great Depression, sales actually increased by 7.2%, with the average person spending $372.57. Over 50% of Americans were out during that weekend (source here) Since then, unemployment has become worse, but consumer confidence as measured by the UoM has increased from 57.9 to 66 (although normal levels are closer to 90).
And of course, there is always the pent-up demand. Spending this year has been unbelievably low, as exhibited by the repeated 2% declines in retail sales last year followed by scattered and inconsistent recovery. Eventually, consumers will get frustrated with the lack of new things that they have, and will crave shopping. The sale prices that will be available on Black Friday could be the trigger consumers need to dig back into their wallets.
Finally, on a personal note, how many times have we heard that some part of the economy is reaching a new paradigm (like we are hearing now). We heard it during the tech boom of the early 2000s, during the S&L boom of the 1990s, and about the economy during just about every recession. The most dangerous words I have heard when it comes to investing are: This time it is different. Consumer spending will come back, and I think it will be sooner than people think.
Disclosure: Long TGT, and am net long the market with other positions.