The RioCan Real Estate Investment Trust Sale Signals Industry Shifts: Are REITs Still Good Buys?

On October 2, RioCan Real Estate Investment Trust (TSX:REI.UN) announced that it plans to sell $2 billion worth of properties in secondary markets across Canada. The move signals two key changes in how REITs may be evolving in this new market. The first is a possible transition from retail properties to residential opportunities for REITs. The second is a flight from secondary markets into the larger Canadian markets that are expected to avoid the expected real estate deceleration in the coming years.

Let’s examine both of these trends and how they should inform investors’ decision making when it comes to REITs.

From retail operations to residential

After making this sale, RioCan plans to invest mainly in transit and diversified residential sectors. The rise in renters and decline of brick-and-mortar retail has contributed to this shift in strategy. This fact has driven a key internal dispute at Hudson’s Bay Co (TSX:HBC). Pressure from an activist investor has been pushing the company to transform into a REIT, but HBC is concerned that declines in retail and a precarious real estate market could make for poor timing.

Coinciding with the decline in brick-and-mortar retail has been the booming residential housing market. Though a recent correction has put a damper on house prices in the Greater Toronto Area, since the 2007-2008 Financial Crisis, Canadian housing in major cities has been one of the more lucrative investment vehicles.

Management at the largest Canadian REITs are well aware of this trend, and this reorientation should come as no surprise.

Major real estate markets are casting a larger shadow

Statistics Canada released a 2016 census report in February of this year that revealed some crucial trends in city growth. Urbanization trends continued as expected, 35.5% of Canadians live in the metropolitan areas of Montreal, Toronto, and Vancouver, which represented a slight increase from 2011. Calgary, Edmonton, and Saskatoon also experienced significant growth due to the oil and gas boom that let up after 2014.

In September, a report from Moody’s Corporation predicted that Canadian housing was headed for deceleration over a five-year period. However, major markets in Vancouver and the Greater Toronto Area would avoid this market trend, for the most part. The news is great for investors in these major markets, and the recent correction has already shown its age as the Toronto Real Estate Board reported a 6% rise in housing prices from August to September this year.

REITs will likely continue to migrate out of secondary markets due to the aforementioned decline in retail and the opportunities in residential and condominium growth that major markets provide.

RioCan REIT still offers an attractive dividend of $0.12 per share, representing a dividend yield of 5.7%. The stock has increased 4% month over month and spiked on the news of the $2 billion sale.

Canadian REITs are going to undergo an evolution in recent years, but that should not deter investors from some of the best income earners on the S&P/TSX Index.

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Fool contributor Ambrose O'Callaghan has no position in any stocks mentioned. The Motley Fool owns shares of Moody's.

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