The equity REIT sector is currently offering exceptional discounts to investors who are brave enough to build their positions. Many of the best REITs, as demonstrated by metrics such as AFFO growth per share, are trading at premium prices.
There are so many that I don’t have time to post individual articles on each one. We will therefore do a quick overview of several major REITs.
Real estate income and real estate agreement
We start with these two net lease REITs.
Realty Income (O) is the largest and they have caused a stir with large acquisition volumes. However, they have generated solid AFFO growth per share over a long period:
They did so despite paying out a large dividend yield and increasing that dividend for more than 25 consecutive years.
We’re not a fan of the current mall environment, but we see room for some net lease REITs within the portfolio:
As for Agree Realty, we have a REIT that plays even more defensively:
To fund the acquisitions, ADC has already locked in valuations on the equity issue. Adjusted for these additional shares, which yield a substantial amount of cash, the net debt to EBITDA multiple drops to 3.4x. It is exceptionally low. They have had little difficulty collecting rent during the pandemic due to the structure of leases and the credit quality of their tenants.
ADC doesn’t have as long a history as Realty Income, but we expect them to generate a very long history of dividend growth due to the defensive way they have positioned the portfolio.
Here are the corresponding files:
Cell tower REITs
Let’s get out of here. We are bullish on the three tower REITs. American Tower (AMT), Crown Castle International (CCI) and SBA Communications (SBAC) all offer attractive prices for construction positions.
Based on our expectations for the underlying real estate, we expect REITs to be successful in leasing space on their towers. It’s not exaggerated. Don’t forget that they already have a huge volume of contracts signed to start over the next few years. We expect them to add even more contracts, and their leasing teams have been doing just that for several years.
They could finance growth by issuing new shares, but we don’t think that will be necessary. If shares are issued, it would be to fund transactions that increase shareholder value. As a result, we should see normalized earnings per share increase significantly over the next few years.
The way cell towers work, the REIT can lease space on the same tower to a few carriers. Carriers need to densify their network to deliver the higher speeds they already advertise. As they rent out this space, I expect the average number of tenants per tower to increase. Having another tenant has minimal impact on operating expenses. Therefore, I would expect revenue to grow faster than expenses, which would cause NOI (net operating income) to grow faster than revenue.
As interest rates rise, a significant portion of the debt is already locked in. Therefore, interest charges should not be a huge headwind for CCI and SBAC.
To be fair, interest rates aren’t even going up today:
The 10-year Treasury rate crossed the 2% mark. However, it is now back down to 1.82%.
This is also great news for net lease REITs, which historically have shown much more correlation to bonds than most types of REITs.
What about data centers? Equinix (EQIX) looks good. Stock prices have stabilized over the past few weeks and consensus AFFO estimates per share continue to climb:
We acquired shares of EQIX at the end of January and consider them a solid choice for a long-term position due to their exceptional growth rates. It’s not just AFFO per share that’s rising. We are seeing growth across the income statement as the underlying business is just doing well. We have previously taken a deep dive into EQIX.
Maybe you want a REIT without commercial real estate and don’t like tech REITs? Alright, how about Terreno (TRNO). Don’t go asking for a big dividend yield. You won’t find that here.
TRNO is an industrial REIT and the recent fall has renewed TRNO’s opportunity.
Stock prices are down significantly for industrial REITs. They’ve taken a big beating since the start of the year.
Was it low income? No. REITs continue to deliver. It wasn’t a payoff issue.
Have people stopped shopping online? No, people still do that.
Has e-commerce found a way to magically transport packages to customers? No, that’s silly.
So why is TRNO on sale? Or what we have we excluded?
What happened? Well, there is a high risk of recession. This can certainly put some pressure on prices. But if we go into a recession, which companies die? Overleveraged brick-and-mortar retailers would be the most likely to fail. This is important because online sales use a lot more industrial space than regular retail sales. If brick and mortar retailers die, it will only accelerate demand for industrial space as e-commerce businesses replace brick and mortar.
However, we can’t really blame the decline of industrial REITs on recession fears alone. Lower quality REIT indices (which suffer more in recessions) are holding up much better. If the market were truly focused on recession risk, weaker REITs would take a much bigger hit.
To be extremely clear, the weaker REITs simply haven’t taken a hit:
The Invesco KBW Premium Yield Equity REIT (KBWY) ETF has generated pitiful long-term returns for shareholders. It is full of REITs chosen for their dividend yield without due diligence. The result is an ETF that overweights weak REITs that generate poor returns. This is evident over longer periods. For example, the five-year total return chart (including dividend reinvestment) really hits this point:
The weakness we see is in high growth names. It is strangely absent from weaker names.
The whole situation with Russia certainly increases uncertainty and could have a significant impact on the markets. But will this have a significant impact on AFFO per share? Probably not.
At least not for these REITs.
Investors are spoiled for choice. We’ve had a few months where the market has gotten a little boring, but the excitement is back with investors dumping great REITs even as they continue to show solid growth. Now is the perfect time to be a REIT investor. We continued to grow our portfolio and benefited from strong sales across the sector. Several of the REITs we were hoping to see opportunities in have been sold again and it has been great to build positions at such low valuations. We continued to build today by expanding our portfolio again.
Notes: Bullish on O, ADC, AMT, CCI, SBAC, EQIX, TRNO