attributes in REITs targeted by
the fund.
Davis and Spears are looking
for companies trading at prices
below their intrinsic values.
Additionally, the fund prefers
companies that own assets in
marquee sub-markets.
Like many real estate fund
managers, Davis and Spears say
they’re looking for companies
with “high-quality management.” What exactly does that
entail? More than just a good
reputation, Spears says.
“It’s not enough simply to be
well-respected by lots of folks,”
he says. “You’ve got to have consistent behavior and a history of
good decision-making. You also
have to have a legitimate stake
in the business.”
Management’s stake should be
more than just stock options, too,
according to Spears. They want
to see “direct ownership,” he says
The last attribute emphasized
by the Davis Real Estate Fund’s
managers is “managing through
the entire real estate cycle.”
Spears contrasts this beginning-to-end business strategy with the
“classic” model used by modern
REITs’ predecessors in the early
1990s. Previously, REI Ts tended
to be “landlords,” according to
Spears. As such, these companies
focused on acquiring properties,
leasing them and then re-leasing
them at higher rents.
Spears explains that the Davis
Fund values companies involved
in every aspect of the real estate
business. This entails developing and managing properties, as
well as judiciously buying and
selling assets to create value.
“We’re more interested in
REITs that can do more than
just landlord their properties,”
Spears says. “We’re looking for
companies that have a skill at
selling assets at the right time
and reinvesting in growth opportunities. A number of REI Ts
and real estate companies have
developed that skill.”
The fund’s 30-stock portfolio
reflects this preference for companies with an end-to-end focus.
Top holdings include
Alexandria Real Estate Equities Inc.
(NYSE: ARE), Corporate Office
Properties (NYSE: OFC),
Digital Realty Trust Inc. (NYSE:
DLR) and Forest City Enterprises Inc. (NYSE: FCE.A).
Recycle Your Capital
Davis admits that there is a
downside to the fund’s emphasis
of companies engaged in the full
spectrum of the real estate business, which he refers to as the
“capital-recycling” model. When
the market to sell assets dries up,
as it has during the recent credit
crunch, it can put a crimp in companies’ plans. The re-investment
capital from asset sales dries up.
“The only problem I see with
the capital recycling model is
that it does presume the ability
to sell,” Davis says. “When you
have a significant development
pipeline that’s contingent on
the ability to sell, that can cause
problems.”
Consequently, Davis says
capital-recycling companies can
struggle in highly irregular circumstances, as witnessed in the
credit crunch of 2008.
“The capital-recycling model
can work during a normal business cycle,” he says. “What this
cycle has shown us is that in
multi-standard deviation events,
all bets are off. It’s thrown the
full cycle of management into
disarray.”
On the flip side, however,
Davis and Chandler recognize an
abundance of attractive, undervalued buys in the current market. The current turmoil actually
plays into the hands of investors
who prefer securitized real estate
over direct investment, according
to Davis, who says current REIT
valuations are approaching a
“once-in-a-career” discount.
“Real estate is cheaper on
Wall Street than it is on Main
Street. It is easier to buy shares
of companies that own real
I honestly think that
this particular investment
class is something
everybody should
own and will make
people’s retirements
that much better.
estate than it would be to go
out and buy properties on their
own,” he says. “We’re positioned
through our investment philosophy to take advantage of that.”
Davis and Chandler say their
enthusiasm for the REIT investment proposition remains
strong. In fact, Davis maintains
that the industry may emerge
somewhat stronger once the
downturn lifts.
“REIT management teams
are among the best. They’re extraordinarily talented,” he says.
“I think some of the weaker
managers are going to disappear,
and we’re going to be left with
an even stronger group.”
Despite the current market
turbulence, REITs are still a
compelling approach to real
estate investment, according to
Davis: “I honestly think that
this particular investment class
is something everybody should
own and will make people’s retirements that much better.” F
