REIT and Commercial Real Estate Returns: A Post Mortem of the Financial Crisis*
This paper explains, the majority of a Real Estate Investment Trust’s (REIT’s) share price is derived from the value of its underlying commercial real estate. Yet in the years surrounding the financial crisis, the share prices of equity REITs appeared much more volatile than those of their underlying commercial real estate. To better understand this phenomenon, Dr. Titman, along with co-authors Libo Sun and Garry Twite, focused on the influence of the REIT capital structure in explaining REIT returns and showed that the share prices of REITs with higher financial leverage and shorter maturity debt fell more during the 2007 to early 2009 crisis period.
The paper further explains that, although REIT prices rebounded with the bounce-back in commercial real estate prices, financial distress costs had a permanent effect for some REITs. In particular, it found that REITs with more debt due during the crisis period tended to sell more property and issue more equity in 2009, when prices were depressed. Thus, when looking at the relationship between risk and return for REITs, the paper concludes, it is important to consider the debt maturity schedule in addition to the percentage of debt in the capital structure.
*This paper received the Distinguished Research Prize at the National Association of Real Estate Trust’s 2013 Real Estate Research Conference.