What happened
After notable moves on Monday, real estate investment trusts (REITs) that own enclosed malls and factory outlet centers rose sharply for a second day. Macerich (MAC 0.79%) jumped nearly 13% in early trading today, with Tanger Factory Outlet Centers (SKT -0.56%) rising 15% and Taubman Centers (TCO) 16.5%. Other big names in the sector also saw quick price gains, including Pennsylvania REIT (PEI) and industry giant Simon Property Group (SPG 0.05%), which CNBC reported has started to make plans to reopen some of its malls and outlet centers.
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Prices across the group started to cool somewhat after about 10 a.m. EDT, but investors have been enthusiastic toward the REIT space lately. There are good reasons for that, but there are also notable negatives that still need to be considered.
Now what
Macerich, Taubman, Tanger, Simon, and Penn REIT all own malls that have been impacted by the government's efforts to contain the spread of COVID-19. Shopping centers were forced to shut down as malls, and the vast majority of the stores within them, are deemed non-essential businesses. That's a big problem for these landlords, since many tenants were already facing headwinds. In fact, some big-name lessees have announced that they won't pay rent while the malls they occupy are closed. That has a ripple effect, since mall owners have their own bills to pay.
Mall owners are not all in the same financial situation. For example, Simon and Tanger have industry-leading balance sheets and their interest coverage ratios are better than those of their peers. They are in a relatively strong position to handle the hit. Penn REIT and Macerich, on the other hand, are both supporting notable debt loads. They are not in as strong a position and, in fact, both quickly reacted to the mall closures by cutting their dividends in an effort to preserve cash. Macerich is even paying 80% of its newly lowered dividend with stock. Before the shutdowns, Taubman agreed to sell itself to Simon, with access to capital being a driving force behind the decision. Although that deal is still progressing, there is a risk that it won't get done because of the current market environment.
MAC Financial Debt to Equity (Quarterly) data by YCharts.
News that states are starting to lift operating restrictions on non-essential businesses has put investors in a more positive mood. Eventually malls will reopen and the uncertainty in the sector will start to clear. And, in anticipation of better days, Wall Street is pushing the stocks of mall REITs higher. But even though more and more states are talking about reopening, the process is likely to be slow. For example, Simon, with a portfolio of around 200 mall and outlet centers, appears to be planning to reopen just 49 of its properties at this time. The mall portfolios of these REITs may not be fully operational for months. In other words, don't get too excited -- there's likely to be more volatility ahead.
A notable piece of that will come from the fact that social distancing measures to slow the spread of COVID-19 are likely to push the U.S. into a recession. Consumer demand will wane, even if the malls are open. Consumers may not be willing to venture out into enclosed spaces filled with large numbers of people because of coronavirus concerns. This, too, would reduce demand. Simon's reopening plans include a number of measures to help keep customers safe, but it's not certain how well shoppers will take to the changes. Add in the stress already occurring in the retail sector and malls could see more store closures and bankruptcies. That would hit occupancy and rent rolls, and might even result in the need to give rent concessions to the tenants that remain. A lot needs to happen before malls are back to anything near a pre-COVID-19 operating environment, if that's even possible at this point.
Now what
Wall Street punished mall REITs when COVID-19-related closures began. The negative mood may have been a little too dire, which isn't surprising given that investors tend to go to extremes. The fact that states are starting to open back up is good news, and malls will, eventually, benefit. However, investors should approach this space knowing that mall REITs are not out of the woods yet. Uncertainty remains elevated, and only more aggressive investors should be looking at this niche of the REIT universe. A few strong upward moves won't change that.
