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Local REITs May Escape an Industry Downturn

Over the past five years, Corporate Office posted a total return of 427 percent, ranking No. 1 among office REITs. The company's stock market value has more than doubled in the past two years because "we're generating the highest earnings growth in the office sector," said President Randall M. Griffin.

Three-quarters of the company's properties are in the Washington area and its specialty is the region's strongest industry -- defense. "Our niche is the intelligence community, " Griffen said. The No. 1 tenant is the Army Corps of Engineers, which leases buildings for agencies that don't want their names on their doors. Even Griffin doesn't know who's occupying some of the buildings. The government provides 13 percent of Corporate Office's revenue, defense contractors 44 percent.

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With low-interest financing locked in, Corporate Office is projecting 11.5 percent earnings growth this year and "significantly stronger" expansion the next two years based on projects now being developed.

The Washington market also is critical to the success of AvalonBay Communities of Alexandria, a high-end apartment REIT that owns almost 7,000 units in 18 local projects.

AvalonBay delivered a 64 percent return last year, twice the average returns for both REITs in general and apartment REITs in particular.

"The markets we're in are markets that people expect to recover first," said chief executive Bryce Blair. Recover? Yes, apartment REITs actually were hurt by low interest rates, Blair said. Last year, AvalonBay lost a record number of tenants who moved into their own homes.

Higher rates shift the housing equation back toward renting, Blair said. Stronger job growth in key AvalonBay markets such as Washington, Los Angeles and Boston should drive demand for apartments.

Rising rates will do less damage to AvalonBay because, Blair said, the company has "the lowest leverage in the sector" -- less debt compared with the equity in its buildings.

Office REITs tend to react slowly to rising interest rates and in an improving economy because their tenants have long-term leases and rents can't be raised quickly. Apartments usually have only one-year leases, but the quickest of all to increase rents are hotels -- whose rooms turn over every day.

That's a big reason why Highland Hospitality Corp. of McLean, Host Marriott Corp. of Bethesda and LaSalle Hotel Properties of Bethesda were such strong performers last year when the hotel industry rebounded, and why they're expected to do well this year.

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