The Real Deal New York

Credit Suisse upgrades SLG, Vornado as office REITs roar back

Both firms trading at big discounts despite performing well since mid-February

April 12, 2016 04:10PM
By Rey Mashayekhi

Marc Holliday Steven Roth

From left: Marc Holliday and Steven Roth

Despite recent concerns over slipping office asking rents in the face of greater supply and a softening in the technology sector, Credit Suisse declared a “bull market for office REITs” Monday and upgraded two of the city’s largest, SL Green Realty and Vornado Realty Trust.

The Swiss bank upgraded Vornado to “Outperform” from its previous rating of “Neutral,” while also bumping SL Green up to “Neutral” from its previous “Underperform” designation. It noted how both REITs are trading at significant discounts to the underlying net asset value (NAV) of their holdings — with Vornado at a 19 percent discount to its NAV and SL Green trading at a 21 percent discount.

It also cited Vornado’s “excellent liquidity,” with $2 billion in cash on hand, and praised the Marc Holliday-led SL Green as having “one of the most dynamic management teams in REITland.”

Credit Suisse forecast sizable upside for both companies, setting a price target of $108 per share for VornadoTRData LogoTINY, which opened at $95.35 on Tuesday, and $105 per share for SL GreenTRData LogoTINY, which opened Tuesday at $98.86.

While both companies struggled to deliver positive shareholder returns in the first quarter, as The Real Deal reported last week, the office sector has rebounded significantly from a terrible start to the year prompted by global market turmoil in January.

“After falling over 15 percent from the beginning [of] the year until mid-February, the office sector has roared back up 18 percent over the last seven weeks as U.S. macro and credit concerns have somewhat dissipated,” Credit Suisse said. SL Green delivered total returns of 21 percent since mid-February, while Vornado saw returns of 17 percent in that period.

SL Green, in particular, appears primed to bounce back after being “the worst performing office REIT over the last 52 weeks,” according to Credit Suisse – having seen its stock drop 23 percent in that period and down 17.5 percent compared to its peers. But the company’s valuation remains “clearly compelling,” and its stock “could outperform” if New York fundamentals hold up and SL Green commits to reducing its outsized leverage ratio, the bank said.

Vornado, meanwhile, benefits from a lower leverage ratio and has “fully funded its only major near-term development project” — the luxury condominium project at 220 Central Park SouthTRData LogoTINY, where “current sales have covered the entire cost of the project,” Credit Suisse said. The Steven Roth-led company is also poised for solid net operating income (NOI) growth, thanks in part to Victoria Secret’s “massive” retail lease at 640 Fifth Avenue in Midtown, while Vornado’s planned spinoff of its Washington, D.C., portfolio will positively place “all the focus” on New York City holdings that constitute 80 percent of its NOI.

Still, the bank noted that its optimism is more rooted in valuation and upside “than by improving fundamentals,” pointing to how office demand from the increasingly influential tech sector “could begin to show signs of visible weakness towards the second half of the year as down-round valuations continue.”

And there is also an upcoming boost in office supply to account for, with “over five percent of the Class A market [in New York City] currently under construction,” according to Credit Suisse. That could lead to a supply overhang, “as private office-using job growth is estimated to be cut in half in ’16 versus ’15” – with the bank echoing concerns voiced by SL Green’s Holliday earlier this year.

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