1. Looking ahead to 2006, what will create the biggest buzz in REIT news?
"I believe continued compression in the cap rates on which real estate assets are trading is likely to precipitate a significantly greater amount of corporate activity in the public real estate sector. First, I suspect we'll see a few more privatizations where investors—including pension funds and foreign buyers—take advantage of the still relatively low interest rate environment and abundant liquidity to take companies private, and then potentially liquidate portions of the portfolio.

Secondly, I would expect to see some of the more ‘opportunistic' or ‘diversified' REITs take advantage of their underleveraged balance sheets to go after smaller public REITs. These acquisitions may even be in a completely different asset class, where the objective is not merely taking advantage of their own size to more cost effectively finance the assets, but also to reinvigorate their own external growth.

Acquiring single assets in the current highly competitive environment is now all but impossible for many of the REITs, and so the only options left to drive external growth are development or corporate acquisitions—and hostile bids may feature more frequently too. As long as REIT prices effectively trail the value appreciation (or cap rate compression) of the assets, we'll probably see investors taking advantage of the mismatch, and some of the investors will be private buyers, and others the better capitalized REITs."

2. What advice would you give to an investor buying REITs for the first time?
"Never buy just one name. I always suggest buying a basket of REIT stocks, and if you're buying for the intermediate to long term, always buy shares of a company with proven management, especially those with skin in the game. I believe it's probably the single most important characteristic when selecting a REIT portfolio.

So you need to diversify your portfolio and not be exposed to only one company or asset class, and with regards to management attributes, my experience has shown that those teams with their own money in the deal and that are skilled at really creating value are the ones most likely to do what's best for shareholders. Typically, they've made the most astute investment decisions over the years. Importantly, investors should be mindful, however, that not all managements that have skin in the game are necessarily smart."

3. What professional in the REIT industry do you admire most, and why?
"When I think about admired management, it is frequently teams or pairs of individuals that come to mind. My first selection would be Cousins Properties Incorporated (NYSE: CUZ), and I'd highlight Tom Cousins and Tom Bell. I admire these two men because they have consistently executed on a clearly defined business model within the confines of strictly observed investment principles. Cousins' management team constantly reviews its business to seek out opportunities to drive for the highest return on equity; and if that means selling assets with nowhere to reinvest the proceeds, it has been happy to distribute them back to shareholders by way of a special dividend. The management team has not continued to grow the company merely for growth's sake. It makes a decision when it believes investors have more rewarding places to invest their capital. As a consequence, the company has remained a similar size for a number of years, and it tends to not merely pursue one asset class."

4. Over the next 12 months, which real estate sector(s) will perform the best, and why? Additionally, which sectors will face the biggest challenge, and why? "One of the best asset classes will be industrial. The sector's year-to-date performance through mid-August has been among the poorest, up only 2.8 percent, with the REIT sector as a whole up 7.3 percent. I believe what will set them apart is their ability to capture gains on developments and continue to expand the third-party development for fee business.

I expect the industrial sector will continue to show strong fundamental improvement as both the domestic and global economies grow, even if moderately, because there's an ongoing desire by users to upgrade and occupy better quality industrial facilities. In addition, unlike many asset classes, the industrial subsector does not need job growth to see better fundamentals, just positive GDP growth. And in ProLogis (NYSE: PLD) and AMB Property Corporation's (NYSE: AMB) respective cases, the companies have exposure to foreign markets, which makes them less dependent on the U.S. economy.

I expect the net lease sector will face some of the greatest challenges, and it has already had some tough sledding in 2005. As an asset class, not only are they more dependent on the acquisition environment, as opposed to development, but in a cap rate compressed operating arena, and in an environment where interest rates are more likely to go up, I expect we'll see thinner and thinner margins in the intermediate term. And if interest rates go up materially, I believe real estate cap rates will also expand, but there will very likely be a lag, and that will lead to additional spread compression, and consequently, an even more difficult external growth environment for the net-lease companies."

Editor's Note: Important disclosures relating to the companies mentioned in this article are available at http://pubtest.ms.com:82/institutional/research/REPdisclaimer/. The views reflected in this report are those of the author, Gregory J. Whyte, as of press time.