An Analysis of the Financing Decisions of REITs: The Role of Market Timing and Target Leverage

Abstract

This paper examines the role of capital market conditions and target leverage on the marginal financing decisions of Real Estate Investment Trusts (REITs), which include both capital raising and capital reduction activities. We investigate the relevance of a hybrid hypothesis whereby REITs have target leverage, but they also choose and time their marginal financing decisions according to the capital market conditions. The empirical results suggest that target leverage behavior plays a secondary role to market timing behavior in the financing decisions of REITs. In particular, we find strong and consistent evidence that REITs exhibit market timing behavior in terms of when and what type of capital to issue or reduce. Such market timing practices, motivated by attempts to take advantage of capital market conditions, may shift the firms away from their target leverage. However, we observe that in the long run, most REITs do move their capital structure towards the target debt level.