They have disappointed investors before, but REITs are again being recommended; Investing


INVESTORS enamored with soaring Internet stocks should take a lesson from the people who fell in love with REITs, thinking they had no place to go but up.

REITs, more formally known as real estate investment trusts, were hailed by analysts several years ago as a promising bet. They offered investors an ownership stake in the booming real estate market, a fat dividend check and a conservative play all in one.

But REITs flopped last year, returning a dismal negative 17.3 percent, the worst performance in the industry's 38-year history.

Even such bigwigs as Samuel Zell, the flamboyant, Harley-riding real estate tycoon known for his golden touch, was bruised as his REITs struggled.

To put it bluntly, "REITs were pummeled," wrote Jonathan Litt, a PaineWebber Inc. analyst in a Dec. 31 research report. "The REIT market took no prisoners in 1998."

But Litt and other analysts expect REIT stocks to rebound this year. They're not looking for explosive gains, but they are expecting steady growth that once again could put REITs in favor with investors.

"All of the fundamentals are back in shape," said Glenn Mueller, managing director of real estate research at Baltimore-based Legg Mason Inc.

"We are ready to have what I hope is a steady year as opposed to a stellar year for REITs."

REITs have been around since 1960 and offer investors a way to invest in real estate without owning property. Instead of owning strip malls and office towers directly, investors own shares in the REIT, which owns and manages the property.

What makes REITs attractive is that they pay a hefty 7 percent dividend on average -- REITS are required to pay 95 percent of their taxable income as dividends to maintain their exemption from corporate income tax -- and are a conservative hedge against a falling stock market.

But their popularity soared in 1993, when a wave of companies went public as the real estate market began recover- ing across the country.

As more REITs raised capital, Wall Street blanketed the industry with analysts, who pumped out glowing reports about REIT prospects.

Investors dived in, buying REITs with the expectation that they would appreciate nicely. As more investors bought REIT shares,the industry's market capitalization -- the price of the stock multiplied by shares outstanding -- soared to $140 billion in 1997, up from $90 billion in 1996.

With the market whipped into a frenzy, a number of REITs tapped investors for a second time to raise money to expand and diluted investors' holdings.

In 1997, the industry returned 20.4 percent, but analysts became nervous at the growing supply of hotels, office buildings and apartment complexes on the market. So, they warned investors of the problem.

"The minute they saw new supply, they said, 'That is what caused the real estate crash of the mid-1980s. We must be going through the same thing,' " Mueller said.

Investors dumped their REIT stocks, sending prices sliding, and the industry has yet to recover.

With so many REITs beaten up, Mueller says, "REITland" is a great place to look for bargains. His colleague, William H. Miller III, who last week was named mutual fund manager of the year by Morningstar Inc., a Chicago-based company that follows the mutual fund industry, is scouring the wreckage for REITs to add to his fund, Legg Mason Value Trust.

"The REITs look quite attractive," Miller said.

Value Trust already owns Starwood Hotels & Resorts Worldwide Inc., a Phoenix-based owner and operator of hotels. The company's ticker symbol is "HOT," but the stock has been anything but. It is down about 50 percent over the past 12 months, and trades in the $25 range.

Mueller says growth prospects are solid for REITs because rents are increasing, expenses are falling and interest costs on their debt are coming down.

"This is one of the few places where you see some real solid fundamental values," he said.

Mueller likes Mid-Atlantic Realty Trust, a Lutherville, Md.-based REIT involved in commercial properties and shopping centers.

"You have got to buy your food; you have got to get your hair cut," he said.

Shares of Mid-Atlantic are trading in the $12 range, and he expects them to rise to $14 over the next 12 to 18 months. But the key to Mid-Atlantic is its dividend yield, which is 8.62 percent. If its stock climbs to $14, an investor would have a return of 25 percent.

He also favors HRPT Properties Trust, a Newton, Mass.-based health care REIT that has a 10.31 percent dividend yield and trades in the $14 range. Mueller expects the stock to reach $19 in the next 12 months.

Granted these aren't Internet stocks, but even high-flying has to rent warehouses to keep the books that it sells, Mueller said.

REITs offer "guaranteed cash flow," he said. "You are buying bond-like income with a moderate amount of growth."

How REITS performed

Total returns, by sectors

1998 1997

S&P; 500 28.6% 33.4%

All REITs -17.3 20.4

Retail -5.8 17.1

Power centers 6.0 14.6

Shopping cntrs -4.7 20.8

Single tenant -5.7 15.1

Enclosed malls -8.5 15.8

Outlet cntrs -10.2 4.3

Residential -7.4 15.4

Self-storage -8.4 3.4

Industrial -10.3 21.7

Health care -15.7 15.5

Diversified -17.2 20.3

Office -19.5 30.4

Hotels -50.6 31.1

SOURCE: SNL Securities LC

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