Last month was a brutal one for investors. The stock market took a tumble as inflation fears caused investors to grow concerned that interest rates could rise sharply in 2022. While tech stocks felt the brunt of the impact — the tech-heavy Nasdaq Composite Index plunged 10% in January — real estate stocks also tumbled, with the Real Estate Select Sector Index falling 8% last month.
The sell-off was widespread across the real estate sector. Homebuilding stocks plummeted 15%, while real estate investment trusts (REITs) were down by about 7%. Here’s a look at whether there’s more downside ahead or if real estate stocks can stage a comeback in 2022.
Headwinds are starting to impact real estate stocks
Homebuilders got off to a rough start in 2022. Ongoing supply chain issues are making it hard to get materials, which, along with persistent labor shortages, is driving up construction costs and timelines. That’s putting pressure on homebuilder margins. On top of that, the potential for higher interest rates this year to help tame inflation would drive up mortgage rates. That would make it even more expensive to buy a home, potentially dampening demand. These headwinds could plague homebuilders this year, which is why their stock prices tumbled last month.
Meanwhile, higher interest rates will make it more expensive for REITs to borrow money to finance their operations. On top of that, higher interest rates increase the income yield on lower-risk investments like government bonds. That tends to weigh down REIT stock prices, pushing up their dividend yields to compensate investors for their higher risk profiles.
In addition, REITs are experiencing some other headwinds. For example, office REITs fell 6% last month due to concerns that companies would further delay their return to the office as the omicron variant caused resurgent case counts.
Meanwhile, the sell-off in the technology sector weighed on data center REITs and infrastructure REITs, which both tumbled more than 13% last month. With tech stocks plunging, investors started worrying about the sector’s growth prospects and whether it could impact demand for data-related infrastructure.
A bump in the road, or a sign of things to come?
While the real estate industry is facing several headwinds this year, that doesn’t mean investors should write the sector off for 2022. Several leaders across the real estate sector have recently provided their outlooks for 2022. These initial forecasts suggest the industry can navigate its current challenges.
In early February, leading homebuilder D.R. Horton (NYSE:DHI) reported its fiscal first-quarter results. CEO David Auld stated on the first-quarter conference call that the company “delivered an outstanding first quarter, highlighted by a 48% increase in earnings.” Of note, its pre-tax margin improved to 21.2% in the period, suggesting that it’s navigating the supply chain headwinds.
Meanwhile, the homebuilder gave some optimistic guidance. Auld stated on the call that “even with the recent rise in mortgage rates, housing market conditions remain very robust.” He noted that while the company is facing significant supply chain challenges, January home starts and net sales orders were in line with its targets. Because of that, it expects to deliver double-digit volume growth this year.
Likewise, several leading REITs recently reported strong results and provided optimistic outlooks. For example, leading office REIT Boston Properties (NYSE:BXP) posted solid fourth-quarter results in late January, suggesting office demand has come roaring back. The company noted that corporate clients are increasingly dissatisfied with remote work because it’s impacting efficiency, retention, and culture. Because of that, companies plan to return to the office this year, which is driving robust leasing across Boston Properties’ portfolio.
Manhattan’s largest office landlord, SL Green Realty (NYSE:SLG), also recently reported its results. Those numbers suggest that the New York City office market is starting to get back on its feet. SL Green’s leasing was better than expected last year, at 1.9 million square feet. Given the recovery of New York City and its current leasing pipeline, SL Green set an ambitious goal to lease more than 2 million square feet this year.
Even demand for data infrastructure has remained strong despite investor worries last month. Leading communications data infrastructure REIT Crown Castle International (NYSE:CCI) posted strong fourth-quarter results at the end of the month. Mobile carriers are investing heavily to roll out their faster 5G networks, driving demand for communications infrastructure. Because of that, Crown Castle slightly boosted its 2022 guidance last month while noting that it sees an acceleration in small-cell site deliveries coming in 2023 to support the continued roll-out of 5G.
Down, but not out
Real estate stocks sold off last month as investors grew worried about the impact of rising interest rates. However, so far, real estate companies remain optimistic that they can continue to navigate the sector’s headwinds in 2022. That suggests the industry could rebound in the coming months, which is why investors might want to take a closer look at real estate stocks that sold off last month.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.