Deutsche Bank Upgrades Equity Residential (EQR) to Buy

Deutsche Bank analyst Derek Johnston upgraded Equity Residential (NYSE: EQR) from Hold to Buy with a price target of $83.00 (from $62.00).

The analyst comments "We have updated our EQR model for 2Q24 and subsequent events, updated management guidance and our updated view on market fundamentals. Our overall view on EQR's coastal portfolio (94% of NOI) is relatively unchanged as we see the company's coastal exposure as a major positive given limited oncoming supply and healthy tenant demand. That said, EQR remains committed to its move into expansion markets (Atlanta, Denver, Austin, Dallas) - highlighted by it's recent $943M portfolio acquisition from Blackstone at an ~5.0% cap rate. This transaction will move total NOI exposure from expansion markets to ~8.0% from 6.0% prior. We were initially worried about the pricing of this transaction when announced on August 7th, as EQR's stock traded at an implied cap rate of 5.4% as at this time, and we estimated EQR's cost of debt at in the mid 5's - suggesting the transaction could have been dilutive to earnings. However, fast forward a month and the stock is up almost 10% with an improved implied cap rate of 5.1%. EQR is also out in the market pricing $600M of unsecured debt at early indications of 10 YR + 100 to 125 bps spread or about 4.75% to 5.0%. We therefore now believe that a quickly improving cost of capital for EQR now makes this transaction much more attractive, and is one of the main drivers of our upgrade to BUY. We certainly still have concerns about the impact of supply in the sunbelt markets in the near term, but maintain the view that migration and job growth patterns favor the sunbelt versus the coastal markets on a longer-term basis. We therefore believe that EQR's strategy to increase exposure to the sunbelt (long term target of 25% of NOI from this region) makes sense if done in such a way as to drive accretive earnings growth and create shareholder value. Our more positive view on the Blackstone portfolio deal is along this vein. We also note that EQR is using its much improved cost of capital to ramp up on acquisitions in general, with another $294M of acquisitions in the sunbelt (Atlanta, Dallas, Denver) still to close. We believe that improved cost of capital likely creates upside to 2025 FFO/sh as EQR systematically improves exposure to the sunbelt. The operating results of closed deals in 2024 may still get somewhat negatively impacted by ongoing supply issues in the sunbelt. However, transactions in 2025 likely fare better in terms of initial SS NOI growth in Year 1 as the sunbelt moves beyond the supply overhang. We are raising our 2024/2025/2026 Core FFO/sh estimates to $3.91/$4.06/$4.28 from $3.89/$4.02/$4.22 to reflect 2Q24's beat and our updated views on fundamentals and improved view on potential accretion from acquisitions given the much improved cost of capital. Thus, our price target increases from $62 to $83 and we are upgrading to a BUY rating. At 19.0x P/FFO, we note that EQR actually trades somewhat cheap versus its coastal peers like AVB (20.0x P/FFO) and ESS (19.2x P/FFO), but our 2025 FFO/sh growth forecast of 3.8% is essentially in line with ESS (3.9%). This suggests a decent growth at a reasonable price profile amongst the coastal focused multifamily REITs, which supports our upgrade to a BUY rating. Underlying earnings tailwinds at EQR which drove up our estimates include: (1) an improved rent growth and occupancy outlook as 1H24 outperformed initial expectations, (2) lower interest expense given our updated forward curve assumptions, (3) an incrementally smaller bad debt expense assumption as issues related to eviction activity in LA eventually wane, and (3) increased net acquisition activity with better-than-expected accretion. Potential headwinds however include rising supply in Central DC and Seattle - both of which bear watching."

For an analyst ratings summary and ratings history on Equity Residential click here. For more ratings news on Equity Residential click here.

Shares of Equity Residential closed at $75.10 yesterday.

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