With the U.S. stock market up so much year to date, investors should also be focusing on investments that will be sustained even if the S&P 500 Index takes a pause. And real estate Investment Trusts (REITs) are stocks that are literally based on solid foundations.
When most investors think about growth in the stock market, REITs don’t immediately come to mind. After all, how can sleepy bits of real estate compete with all of the other facets of the stock market?
But real estate has a few things going for it. To start, as the adage goes: when it comes to land, they aren’t making any more of it. Well, that’s mostly true except for certain markets such as the territories around Hong Kong and Victoria Harbour.
Then there are the many adaptations of land — from residences for technology workers to housing the actual technology, from residential to office and of course data centers.
And of course, there is the income that comes from real estate. And for REITs, the dividends are in general much higher than the general market. The yield for the S&P 500 Index is currently 1.87% while the yield for REITs are tracked by the Bloomberg U.S. REIT Index is much higher at 4.15%.
Moreover, thanks to the Tax Cuts & Jobs Act of 2017, REIT dividends are worth even more on an after-tax basis. This comes from a line-item in the TCJA whereby investors get to deduct 20% of the dividend income from their taxable income.
Growth & Income from REITs
The great combination of underlying property value improvement and tax-advantaged income continues to result in better performance in REITs.
For the past trailing year, REITs — as tracked by the Bloomberg REIT Index — have earned a return of 14.8%, which is significantly higher than the return for the S&P 500 Index at 9.24%. In addition, during the big sell-off in stocks during the fourth quarter of last year, REITs did drop in return by 6.1% — but that was way better than the drop in the S&P 500 Index of 13.5%.
Bloomberg US REIT Index & S&P 500 Index Source Bloomberg
Now, the same question has to be asked of REITs as of the S&P 500 Index — is the market still a value?
Well, to start, the REITs reporting so far for the second calendar quarter have shown revenue gains averaging 14.6%, with earnings advancing by 17.2%. That’s significantly better than for the general stock market reporting so far.
But what about value? On a price-to-book basis REITs are sitting on average at 2.56 times which is well-below highs seen early this year and highs over the past five years. And the underlying book value itself has been strongly on the rise. This is important as buying REITs just like for individual properties means not paying too much for the land and buildings.
Bloomberg US REIT Index Price to Book Value (Orange) and Underlying Book Value Per Share (Olive) Source Bloomberg
I have a large and diverse collection of REITs in the model portfolios of Profitable Investing. And from a value standpoint, the average price to book value for all of them is at a bargain level of less than 2 times. This means that my REITs are even better buys right now than even the value-priced general REIT market.
And as noted above, REITs are reporting higher revenue and earnings so far for the quarter. But one of the specific metrics for profitability comes from the rate of return from funds from operations (FFO). This measures the profits that REITs make from just the core business of collecting rents from their tenants.
There are several REITs with significantly higher FFO returns, but on average for our collection the FFO return is running at over 10%, which remains quite positive and is supportive for higher dividend payments.
3 REITs to Recognize
As noted above, I have a collection of REITs in my model portfolios. All make for great buys. But here are three to recognize for their particular opportunities.
I’ll start off with American Campus Communities (NYSE:ACC). This REIT has educational properties focused primarily on dorms for colleges and universities. This is an attractive market since it has a captive market for students that need or want to live near where their classes and activities are happening. The space has been so good that one by one, the leading public REITs in this market have been bought out by non-public investments and private equity.
American Campus Communities (ACC) Total Return Source Bloomberg
ACC is the one focused REIT still here. And it is performing with the trailing-year return of a much better 20.7%. Revenues are up by 10.6% with a return from funds from operations (FFO) at a nice 10%.
It is a value too at only 1.91 times its book of business, including its properties. And the dividend is an attractive 4% and has been climbing over the past five years by an average of 4.85%.
Next is WP Carey (NYSE:WPC) which I’ve followed since it came to the public market back in the late 1990’s. WP Carey is a large, diversified REIT with assets around the U.S. and the globe. Its focus is on doing sale-lease-back transactions, which have owners and occupiers sell their properties and in turn lease them back from WPC. And it also focuses on triple-net leases, whereby tenants pay insurance, upkeep and taxes leaving WPC to avoid these costs and risks.
WP Carey (WPC) Total Return Source Bloomberg
The return over the past trailing year is a whopping 38.7%. And while revenues have slowed a bit recently to a gain of 4.4%, the FFO return is better at 11.6%. And it is also a bargain at only 2.05 times its book value.
And the dividend which keeps rising every quarter by policy is even more attractive at 4.9%.
And last up is Medical Properties Trust (NYSE:MPW) which I added to the Total Return Portfolio in the March Issue. This REIT is focused on health care properties from hospitals to other facilities. And like WP Carey, MPW focuses on net leases, which lowers costs and operating risks.
Medical Properties Trust (MPW) Total Return Source Bloomberg
The trailing year return is running at 32.9%, and yet the stock is only trading at 1.42 times its book value. Revenues are rising at 11.3% and the FFO return is running at 10.9%. And it has a dividend distribution yielding 5.7%, with the distribution rising on average over the past five years by 3.8%.
Now that I’ve presented my way to invest in the solid and lucrative real estate investment trust market, perhaps you might like to see more of my market research and recommendations for further safer growth and bigger reliable income. For more, look at my Profitable Investing. Click here to learn more.
In addition, if you find yourself in San Francisco on Aug. 15-17, please join me at the MoneyShow, where I’ll be presenting my economic and market analysis and my latest investment themes and recommendations. For more information, click here.
Neil George is the editor of Profitable Investing and does not have any holdings in the securities mentioned above, but they may be held in his model portfolios.
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