The REIT privatization wave has helped send the sector's share prices sharply higher, but that rally could cause the deal spigot to dry up.

A few months ago, the argument could be made that REITs' real estate portfolios were undervalued in the public markets based on where stocks were trading. That explained why private equity groups and other institutional investors were able to pay lofty premiums to take real estate investment trusts private and gain attractive real estate properties that could either be repositioned for the long term or flipped immediately for a nice profit.

There have been 15 REIT privatizations since the beginning of 2004, according to SNL Financial. After the Blackstone Group announced in early March that it would pay $5.6 billion for CarrAmerica ( CRE), fellow office REIT stocks began running up in price as speculators made bets on who would be taken private next. The recent bidding war for Town and Country Trust ( TCT) helped propel the apartment sector to lofty valuations . Year to date, the MSCI U.S. REIT Index is up about 13% on a total return basis -- much of it due to the privatization surge.

But the gap is now closing between the private market value of REIT assets and the public market value (as reflected in the stock price), says Matthew Lustig, who heads the real estate investment banking group at Lazard.

"In some cases, the public market may have caught up to private market value," Lustig says. There are a handful of REITs that had been expected to go private this year, he says, but with stock prices shooting up recently, it's getting harder for buyers to offer premiums.

"It's absolutely a much more challenging environment to consummate any transaction at a premium," says Joe Parsons, president of North America equity for GE Commercial Finance Real Estate, which recently bought Arden Realty, a Southern California office REIT, for $4.8 billion.

New York City office landlord SL Green ( SLG) and apartment owner Home Properties ( HME) are two of the companies that have shot up recently due to privatization buzz, but neither are likely to get taken out at current stock prices, says another veteran investment banker.

SL Green has jumped in price from $76 in early January to more than $100 now. Similarly, Home Properties has jumped from $40 to just under $51. Home Properties declined to comment on the takeout rumors, while an SL Green representative couldn't be reached.

"Until the market recalibrates, and some of this speculation premium comes out of stocks, it's going to be hard to get deals done," the banker says, adding that either stock prices need to drop or interest rates need to come down for deals to occur. "Whatever value has been perceived to be there has been taken out by the market. Anybody buying REIT stocks now will be disappointed," the banker says.

But based on SL Green's attractive New York City office buildings, the stock's fair value could be $120, says Robert Promisel, a principal with Adelante Capital Management, which owns SL Green shares. At $120, SL Green's portfolio is still being valued at less than $600 per square foot, Promisel says, which is approaching fair value for what the assets would fetch in the private market.

And just because premiums may be hard to come by, it doesn't mean REIT management teams have stopped asking their bankers to look at the possibilities of going private.

"Even when they're not doing it, investment bankers are doing it for them," says Jeff Barclay, managing director of ING Clarion Partners, which bought Gables Realty Trust, a residential REIT, last year for $1.6 billion. Barclay adds that the conventional wisdom in the sector has been that if a company has under $2 billion in assets, then it is better off being private.

Barclay, for one, expects at least another four REITs to go private this year.

There are "ample amounts of moneys for the proper deal to take a public company private," says Lee Neibart, senior partner with Apollo Real Estate Advisors, one of the country's largest private real estate investors.

REITs Taken Private Since 2005
REIT Buyer Sale Price (not including debt assumption) Premium to stock price month before deal
CarrAmerica Realty Blackstone Group $2.6 billion 20.60%
MeriStar Hospitality Blackstone Group $1.1 billion 9.40%
Bedford Property Investors LBA Realty LLC $435 million 20%
Arden Realty GE Real Estate $3.1 billion -2.30%
Town & Country Trust Morgan Stanley/Onex $929 million 35.20%
CenterPoint Properties Trust CalEast Industrial Investors (CalPERS and LaSalle Investment) $2.5 billion 12.40%
AMLI Residential Properties Morgan Stanley $1.2 billion 19.20%
Capital Automotive REIT DRA Advisors $2.2 billion -3.10%
CRT Properties DRA Advisors $903 million 21.20%
Gables Residential Trust ING Clarion $1.4 billion 18.80%
Prime Group Realty Trust Lightstone Group $209 million 13.30%
Source: SNL Financial

"Every time there is a public-to-private transaction, there is always criticism of Sarbanes-Oxley and other things, which causes management to be not only unhappy about being public ... but feeling that in terms of shareholder value, now is the time to mine it," Neibart says.

Even though the Blackstone deal for CarrAmerica was the largest recent REIT privatization, Lustig, the Lazard banker, says there could be larger REIT deals. But a buyout is unlikely of a REIT with a market cap above "the high single digits," Lustig says. Private equity groups typically use 80% leverage on deals, and it's a lot easier to put together a few deals that require $1 billion to $2 billion of equity each rather than one huge layout.