Why Strong Fundamentals Are Driving REIT Returns Despite Rising Interest Rates

Real estate investment trusts are posting surprising gains despite climbing yields, as property-level cash flows and slowing new construction outweigh higher borrowing costs.

Why Higher Yields Failed to Sink REIT Returns

A fresh study by Cohen & Steers highlights that the relationship between REIT returns and 10-year Treasury yield fluctuations has continuously evolved, pointing out that rate levels and directions by themselves fail to reliably forecast REIT outcomes. David Auerbach, chief investment officer at Hoya Capital Real Estate, noted in a report titled “The Rate Shock That Didn’t Break REITs” that REIT-to-interest-rate correlations are currently at their lowest level in about four years.

Commercial real estate unquestionably suffered between 2022 and 2024 due to elevated interest rates, since increased financing expenses reduced asset valuations. Moreover, numerous sectors experienced an influx of new construction, which dampened rental increases and cash flow expansion. While elevated rates hindered fresh projects, that constraint is now benefiting the industry amidst today’s climbing rate climate. Seth Laughlin, head of real estate strategy and research at Cohen & Steers, pointed out that 100 basis points on the 10-year Treasury over the past year forces every other asset class to compete with higher yields. Even so, earnings are accelerating up to 9% this year, with an estimated 8% growth expected next year.

Strong Fundamentals Help REITs Absorb Rate Shock

Laughlin points out that cash flow expansion is recovering as new construction peaks, and valuations appear appealing compared to stocks. Auerbach noted that robust core drivers are increasingly carrying the weight, enabling REITs to withstand the rate pressure through solid property cash flows, clearer earnings prospects, robust dividend security, and strengthened financial positions. Out of 98 REITs providing full-year guidance, 58 raised their outlook.

Excluding data centers, REIT development pipelines are roughly 40% below their 2022 peak and 2019 levels. Data centers remain the notable exception at seven times 2019 levels. Specific sectors are seeing outsized returns, with hotel and lodging, data centers, and senior housing leading with double-digit returns.

Multifamily apartment REITs remain in negative territory as the sector continues to work through a period of oversupply and weaker rents. Demand for multifamily is expected to grow alongside interest rates simply because fewer people will be able to afford to buy a home. Other sectors like industrial, regional malls, and office are seeing positive returns despite higher interest rates. The economy under the hood remains healthy, positioning REITs as landlords to the broader economy.