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On the hunt for yield

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Canadian Real Estate Investment Trusts (REITs) have surged over the past year as investors hunt for yield in a low interest rate environment, says one real estate watcher.

Michael Smith, Managing Director of Real Estate Equity Research at Macquarie, tells BNN that the combination of record low yields on government bonds and high liquidity is behind investors push into REITs.

"They're [central banks] trying to fix a problem there, and we're an indirect and unintended beneficiary," he says.

Normally, when rates are this low, the economy would slow down and there would be an increase in bankruptcies, but that's not the case, he says.

"We're still getting growth, albeit slow, and we're still getting higher rents and higher occupancy," Smith says.

He adds that as long as there's turmoil in Europe, the U.S. has sluggish growth, and rates remain low, Canadian REITs are a net beneficiary.

To that end, an improvement in the global economic picture is the biggest risk to REITs.

"The No. 1 risk right now I would say is that things get better in Europe, and that things start to really grow in the U.S. and basically, life looks good," he says.

In a more bullish environment, rents could go up because businesses are expanding, but investors may move their money into other sectors and out of REITs.

"Operationally , they'll do well, but if interest rates go up because of that, then I think you'll get a flow of funds outside the sector. REITs might become yesterday's story," he says.

Smith shares his Three Timeless REIT Rules:

  • No one is spared in a rising interest rate environment.
  • When the flow of funds is negative, fundamentals become secondary.
  • A good REIT trading below Net Asset Value (NAV) is a good bet.
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