Every once in a while, the market hands you a gift, a great stock at a great price. That’s certainly the case with Realty Income Corp (NYSE:O). Several bearish headwinds have caused the triple-net real estate investment trust (REIT) to fall on hard times — at least that’s what its share price action would have you believe, anyway. The reality for O stock is still as rosy as ever, though.
In that mismatched pricing, investors looking to score a high yield that is also growing like clockwork have the opportunity to buy one of the best players in the business. But, that opportunity won’t last long.
The best time to buy O stock is now.
What’s Going On With Realty Income?
For Realty Income, the last few quarters haven’t exactly been wonderful. In case you haven’t heard, retail is dying a quick and painful death at the hands of Amazon.com, Inc. (NASDAQ:AMZN). Over the last few months, a variety of retailers have reported lower sales and dwindling profits as online shopping continues to grow like weeds.
With that, many retailers have begun the process of rightsizing their portfolios- i.e. conducting store closures and laying off workers. Those in more dire straits have even filed for bankruptcy in the wake of rising online sales. Bankruptcy filings for retailers are up over 31% this year alone.
It shouldn’t come as a surprise, those REITs that focus on the retail sector have been hit especially hard. After all, with stores closing and sales down, it stands to reason that rents will go unfilled and investors will be given the shaft.
On top of this, the Federal Reserve is adding gasoline to the dumpster fire that is retail. Rising interest rates poise a problem for REITs or so the perception goes. Thanks to their tax structure, REITs kick-out much of their cash flows as dividends and thusly, have high yields. That’s great when bonds and other fixed income products are paying out 0%. But with the Fed raising rates and bonds once again getting attractive from an income point of view, REITs and their added risks are no longer seen as great.
Making matters even worse for REITs is their higher than average debts tied to mortgages. As the Fed raises rates, rolling over those mortgages will be a lot more expensive as Yellen & Company keep raising.
So for a retail REIT like O, you have a dying sector coupled with rising rates. And investors aren’t having any of that. Shares of Realty Income are well off of their 52-week highs and are down 19% over the last year.
It’s Not That Bad at O
But here’s the thing, it’s not that bad for O to justify such a big time drop. In fact, times are actually pretty good. The secret comes down to its portfolio.
O focuses on free standing real estate. We’re not talking about a strip mall, but the Taco Bell in front of the strip mall. And that’s a key distinction. Of its more than 4,900 properties, the bulk are things including everything from convenience stores and restaurants to movie theaters and automotive parts & services centers. Amazon can’t change your car’s oil or cook you a burger and fries. That puts Realty Income’s properties in a different league than say mall operator CBL & Associates Properties, Inc. (NYSE:CBL).
You’re getting a portfolio of real estate that is as online-proof as it comes.
Even better is that all triple-net leased. That means that tenants- not Realty Income -pay the taxes, maintenance and other fees associated with renting the property. It’s the holy grail of being a landlord and produces better margins. In the end, it allows O to distribute more cash to investors.
As for the Fed, things aren’t as bad for O as they are made out to be. Like a lot of top-notch REITs, management at O saw the rate hikes coming. And with that, they’ve spent much of the last few years using the lower rates to their advantage. That meant retiring expensive and high yielding preferred stock shares and issuing long term bonds at current favorable rates. Realty Income has already prepared itself for new rate environment.
Dividends Keep Rising at O
Despite all the negatively and bearish reasoning from investors, O has continued to live up to its “Monthly Dividend” moniker. Cash flows and rents continue to rise at the firm and so far this year Realty Income as raised its monthly dividend 3 times. With its latest payout, it will have completed 565th consecutive monthly payout and currently yields a very respectable 4.47%.
That’s clockwork-like precision. Precision that is being thrown away for some less than great reasoning. The truth is Realty Income is fine and will be fine for the foreseeable future. For investors, using the recent downturn in O stock could be a great opportunity to snag a great and growing yield.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.
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