Janus Henderson U.S. Real Estate ETF Q2 2024 Commentary

U.S. Real Estate ETF Performance – USD (%) (as of 06/30/24)

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Investment environment

U.S. equities achieved record highs during the second quarter. Signs of a weakening economy and easing inflationary pressures bolstered investor hopes that interest rate cuts may arrive later in the year. A boom in a handful of technology stocks, led by artificial intelligence, and some robust corporate results also boosted investor confidence and drove U.S. indices to record levels. Performance for U.S. real estate investment trusts (REITs) was muted during the quarter, initially selling off as expectations for the number of interest rate cuts were scaled back from three to one but then recovering as inflation data eased. Sector performance diverged notably, with lodging, industrial, and office all underperforming, posting negative double-digit returns in the case of lodging and industrials, the latter on the back of weak demand trends as tenants work through excess space taken during the pandemic. In contrast, apartments and healthcare posted solid results. Apartments were boosted by merger-and- acquisition activity in the space and by slightly more robust demand trends versus expectations due to healthy renewal activity through peak spring leasing season, as move-outs to buy first-time homes remain at historic lows given elevated mortgage rates. Following encouraging early signs from spring leasing, storage REITs also outperformed, suggesting the heavy pricing discounts offered over the past year may be beginning to stabilize.

Portfolio review

Among the top contributors to relative performance were positions in multi-family REIT UDR and healthcare REITs Sabra (SBRA) and Welltower (WELL). UDR saw better sequential rent growth driven by renewal pricing while also benefiting from a lower turnover rate relative to peers in the sector. Sabra and Welltower continue to benefit from senior housing fundamentals that remain strong and moderating expense pressures as labor availability has improved.

Conversely, Mexican industrial property company Vesta detracted from performance following the surprise results of the Mexican election in which the Morena party won a supermajority in both houses, heightening fears of undemocratic constitutional changes; this drove the overall Mexican equity market lower. Kilroy Realty (KRC) detracted due to a lack of meaningful positive news in its U.S. West Coast markets. Data center landlord Equinix (EQIX) also underperformed, although an independent investigation has alleviated concerns after a short report targeted the company.

During the quarter, we introduced a new position in a Sun Belt landlord that we believe offers differentiated exposure to smaller tenants and geographic concentration to a market characterized by stronger fundamentals. We also added a new position in a U.S. mall owner because we believe their new management team can offer fresh leadership with new ideas on operations, balance sheet management, and capital allocation, potentially paving the way toward better performance and improved investor perception.

Within residential, we added a U.S. manufactured housing owner following a period of underperformance. The owner’s manufactured housing parks represent some of the best assets in U.S. REITs, underpinned by stable demand from an aging population and very low levels of new supply. We sold out of a leading single-family property owner, leasing operator, and build-to-rent developer that also represents a compounding business model but with higher capital expenditures and a full valuation, in our view. In storage, we initiated a relative-value-driven change in our exposure, selling our holdings in a large self-storage facility operator following a period of strong outperformance and adding one of its larger peers, which we also expect to benefit as pricing discipline returns to the industry.

Manager outlook

While the private commercial real estate market can dominate media headlines and is typically slower to adjust reported values to reflect higher rates, the listed market has already reacted given its real-time pricing. Increased confidence that we have reached peak interest rates is therefore likely to prove a key moment for the listed property sector, which continues to trade at a discount to private market values.

Importantly, public REITs have continued to offer reliable and growing income streams, supported by strong balance sheets, more exposure to high-quality properties in areas of structural growth, and astute management teams. From pricing levels that we believe reflect today’s economic reality, these characteristics could potentially reward investors with current income and growth over time.

Portfolio

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Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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