Although the stock market seems to have taken a breather from its incredible bull run of the past several years, many valuations are still on the high end, historically speaking.
One big exception is the real estate sector, where rising interest rates have made real estate investment trusts, or REITs, among the market's worst performers. Retail and healthcare REITs have performed particularly poorly, thanks to some industry-specific headwinds.
Although these specific REIT subsectors have been beaten down, some could be excellent long-term investments, especially at the current depressed valuations. With that in mind, here are a retail REIT and a healthcare REIT that look quite compelling now.
Retail real estate has been beaten down recently, but certain retail REITs could be long-term bargains. Image source: Getty Images.
Recent Stock Price
Tanger Factory Outlet Centers (NYSE: SKT)
Welltower (NYSE: WELL)
Data source: TD Ameritrade. Prices, yields, and P/FFO as of 4/18/18.
Retail struggles mean long-term bargains
Understandably, the retail environment of the past few years has been discouraging to investors. The recent bankruptcy of iconic retailer Toys "R" Us is just the latest in a string of dozens of high-profile retailers that have fallen victim to e-commerce headwinds. This has led to rock-bottom valuations in retail, including the REITs that own retail properties. Tanger Factory Outlet Centers, which I own in my own portfolio, trades for a rock-bottom 9.3 times FFO. (Note: FFO stands for "funds from operations," which is essentially a REIT-specific version of earnings.)
However, it's important to be aware that not all brick-and-mortar retail is struggling. Specifically, retailers that are discount-oriented and have an experiential component to their businesses are doing quite well. Outlet retail meets both of those criteria, and Tanger Factory Outlet Centers provides top-quality outlet shopping and has an extremely strong 97% occupancy rate.
One of my favorite things about Tanger is its long-term growth potential. Tanger Outlets is a pure-play on the outlet shopping industry, which is still relatively young. To give you an idea of how small the outlet industry is, consider that Tanger has the second-largest market share (Not surprisingly, massive retail REIT Simon Property Group has the top spot, but Tanger is larger than the next six competitors combined), and is only in 22 states so far. The entire market is about 70 million rentable square feet, which is less than the retail space in just the city of Chicago. In short, there's lots of room to grow.
Tanger has a strong balance sheet, with more than five times interest coverage and about 60% of its credit line untapped, so it has the financial flexibility to pursue opportunities as they come up, including acquisitions in addition to ground-up development. And with a dividend yield of more than 6% and a 24-year track record of increasing its dividend, it's not only cheap, but it's a great long-term income play.
Don't let oversupply worries distract you from this long-term opportunity
Another REIT I have my eye on is healthcare REIT Welltower, the largest real estate investment trust that specializes in healthcare properties and one of the largest REITs of any kind in the market.
Healthcare REITs have also been one of the sector's underperformers recently, especially those that own senior housing. One big factor is that there are fears of oversupply in the senior housing industry. And to be clear, I'm not refuting that -- developers have certainly produced new inventory faster than the growth rate of the market.
However, oversupply is a temporary problem, especially with a long-term growth opportunity as big as senior housing. And as a result of it, along with overall REIT weakness, Welltower trades for less than 13 times last year's FFO.
Welltower owns nearly 1,300 healthcare properties, the majority of which are senior-oriented. Approximately 72% of the company's NOI comes from senior housing and another 11% comes from long-term care properties. The other 17% of the portfolio is made up of outpatient medical facilities, and while this isn't a senior-specific property type, they do make a disproportionately large amount of their money from older patients.
Here's why you should care, especially if you measure your investment time horizon in decades. The U.S. population is aging rapidly, due to a combination of the massive baby boomer generation and generally longer life expectancies. In fact, the 65-and-older population is projected to roughly double by 2050 (when the oldest millennials will be pushing 70), and the 85-and-older population is expected to double in just 20 years.
This should create a huge, sustained growth in demand for senior-focused healthcare, and with such a high concentration of these properties, Welltower is in a good position to benefit. Furthermore, Welltower has the financial strength to develop properties in high-barrier urban markets, like Manhattan and Toronto, where the company is currently building senior living facilities. These properties provide the company a big edge over competitors, as 65% and 73% of the seniors in those respective cities want to stay.
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