By Mary Wilson

1. As we close the book on 2006, what developments do you expect to see play a major role in the REIT industry next year?

It will be interesting to see the separation in valuations across different real estate sectors, niches and geographic locations. There has been a considerable bifurcation in valuations over the past several years. What appears to be "expensive" by historical or traditional REIT valuation benchmarks may not necessarily be over-valued. Several REITs that were perceived to be expensive turned private at attractive premiums. The premiums for portfolios and management platforms cannot be underestimated. On the other hand, there doesn't appear to be much value among the underperforming REITs at this time due to the wide variance in real estate fundamentals throughout the U.S.

2. More mergers and acquisitions have taken place in 2006 than in recent years. Will this trend continue into 2007?

Real estate offers one of the most unique merger-and-acquisition characteristics: the more you buy, the more you generally pay. That means in an era where volume discounts are the norm, real estate is unique because the appetite for larger portfolios typically requires a higher price.

It's hard to believe that merger and acquisition activity will continue at the same pace through 2007, but I am not sure we can dismiss it entirely. The spotlight in 2007 will likely shine on private market valuations, liquidity of real estate portfolios and the amount of capital earmarked for real estate investments. Investor return requirements remain relatively low and thus, on a risk-adjusted basis, real estate remains an attractive use of funds.

3. Which real estate sectors will perform the best over the next 12 months and why? Which sectors do you think will face the biggest challenges?

Apartments clearly have the upper hand in terms of earnings growth potential. Fundamentals have improved significantly as a function of a supply-demand imbalance resulting from the condo-conversion frenzy, higher interest rates impacting demand for single family homes and continued job growth in select regions. It is important to recognize that the majority of apartment REITs own properties in geographic locations where job growth is the strongest, land costs are the highest and new construction remains limited or constrained. The current valuations appear to reflect this outlook.

REITs owning highly desirable resort-like properties also offer an attractive outlook. It is another promising sector that relates to the significant demographic trend whereby the affluent baby boom generation is approaching retirement and has demonstrated a strong propensity to travel for recreation and lifestyle purposes. This is the same generation that is very focused on income-oriented investments, such as REITs.

From a real estate perspective, we believe the triple net lease sector faces the greatest challenges in terms of acquisition opportunities, credit risk, property residual value and lease renewal risk.

Certain office markets have demonstrated little fundamental improvement and could remain challenged through 2007. We are not convinced that a broad office recovery will materialize. Most of the improvement in "national" statistics is being driven by a few large, but healthy, markets. It appears that the consensus opinion regarding economic growth over the next 12 to 18 months is that demand could slow. There are concerns about this potential slowdown and the subsequent impact on office-using employment.

4. The attractive investment proposition REITs present has attracted a broader array of investors to the industry. What recommendations would you give to a first-time REIT investor?

Never lose sight of the reasons why you are buying REITs. Adding REITs to your portfolio offers proven, long-term diversification benefits. REITs are not designed to make overnight millionaires.

One of the biggest mistakes first time buyers make is chasing the highest yielding REIT. Dividend yields are clearly a very important component of a REIT total return profile. However, it is our opinion that REITs with unusually high dividend yields represent an added layer of risk that the first time buyer may not be willing to accept or understand. This leads us to our final recommendation—buy what you understand. One of the most attractive attributes of the REIT universe is the vast array of options investors can choose from.