Vaccine May Not Be Shot in the Arm for Office REITs
Potential earnings downside is a major risk for the sector, analysts say.
By Lynn Pollack | January 12, 2021
The worsening COVID-19 pandemic and the sluggish rollout of vaccines for the new coronavirus will negatively impact the office REIT sector in 2021, according to recent analysis by Mizuhou Securities.
While office REIT stocks shot up in November, buoyed by hopes that new COVID-19 vaccines could bring workers back to physical office spaces sooner than expected, there is now an increased risk that work-from-home will become a permanent substitute for working in the office, the report says.
Infections are skyrocketing as COVID fatigue mounts and a new, more virulent strain of COVID-19 rocks the country, and employers like Google and AirBnB are pushing their return-to-office dates until at least after the summer of 2021.
“The set-up thus feels a lot like 2020 in that low office utilization rates for much of 2021 would result in weak new leasing volume, put pressure on rents during lease negotiations and possibly result in lower retention rates,” the report says.
“2021 consensus estimates feel too high, especially for REITs with exposure to densely populated coastal CBD markets that have been disproportionately hit by the pandemic.”
Pressure will also continue to build on leasing activity, as well as parking and retail revenue. Challenging fundamentals in San Francisco—a market of particular concern to Mizuhou analysts—led the investment bank to downgrade Paramount Group to underperform from neutral, and Kilroy Realty Corp. to neutral from buy.
The analysis finds that potential earnings downside is a major risk, as the 2021 consensus earnings estimates and office REIT stock prices are likely to be delayed as employers’ further push return-to-office dates. Office REITs will likely need to build additional bad debt reserves and write off additional accounts receivable.
Mizuhou analysts recommend investors focus on niche office players in sectors like life sciences and government, where supply and demand fundamentals are stronger and working from home is less likely. Alexandria Real Estate Equities is the investment bank’s top pick in office, and analysts also upgraded Corporate Office Properties Trust to buy from neutral.