No Surprise Here, SWANs Outperform
Brad Thomas wrote this article and it has appeared previously on Seeking Alpha.
- I see no reason to suggest that REITs will be pulling back on dividend growth anytime soon, especially the stalwart REIT known as the monthly dividend company.
- REIT dividends are expected to grow on average by 7% a year for the next several years.
- The issue of a price correction (due to rising rates) and REIT fundamentals are two separate discussions.
- There is simply no better place to invest your hard-earned capital than a high-quality stock that has a long track record of paying and increasing dividends.
Admittedly, I was shocked when I read Reuben Gregg Brewer's article yesterday on Seeking Alpha, NoSurprise Here, Dividends Are Shrinking.
It was not so much the title that surprised me, but the suggestion that "dividend growth was drying up" and it was now a "reason to bolt" shares in Realty Income (NYSE:O).
To be fair, I completely get Brewer's argument that C-Corporations may be pulling back on paying distributions based on a myriad of reasons. However, I see no reason to suggest that REITs will be pulling back on dividend growth anytime soon, especially the stalwart REIT known as the monthly dividend company.
Keep in mind, REITs are forced (by law) to pay out at least 90% of taxable income, and most pay out 100%. Thus, the argument that REIT dividend is drying up isn't realistic since these companies will continue to keep doing what they have been doing since 1960.
More importantly, we are seeing steady earnings growth in the REIT sector and according to Tom Bohjalian portfolio manager at Cohen & Steers (NYSE:CNS), "REIT dividends are expected to grow on average by 7% a year for the next several years."
In Q3-16, the total FFO of the listed U.S. Equity REIT industry was $14.0 billion, down from $14.5 billion in Q2-16 but greater than the $13.1 billion in Q3-15. The top-performing Equity REIT property segments on a Same-Store NOI basis in Q3-16 vs. Q3-15 were: Self Storage (6%); Manufactured homes (5.6%); Industrial (4.9%), Apartments (4.5%) and Data Centers (4.5%).
Dividends per share rose by 3.2% from the previous quarter and 6.3% from the same quarter in 2015. The price-to-FFO per share multiple for all Equity REITs was 18.1x in Q3-16, down 60 basis points from Q2-16. The FFO price multiple has stayed within a range of 17x to 20x since 2012; the current multiple is slightly below the middle of this range. Source: REIT.com
Building a Stress Free REIT Portfolio
I'll admit, reading Brewer's article gave a panic attack when I read it and I decided that I needed to write a rebuttal simply to remind readers the primary reason to own shares in "sleep well at night" REITs. Later this week, I will write a specific article on O but I wanted to first provide a high-level look at the SWANs in our research lab, known as The Intelligent REIT Lab.
As you may know, my partner (Rubicon Associates) and I research approximately 100 REITs and we provide research reports on a few micro-caps, small caps, mid-caps and large caps. Our goal is to provide optimized REIT research so that we can assist investors with actionable investment ideas and most importantly, help them sleep well at night.
Later this week (Saturday at 7:00 pm EST and Sunday at 3:00 pm EST), Rubicon and I will be discussing SWAN investing on my new radio show called "The Ground Up." Make sure to tune into the show by CLICKING HERE.
Also, in the upcoming edition of the Forbes Real Estate Investor, we will be highlighting the best SWAN bargains. We spend considerable time analyzing REITs and we will soon be launching our own version of RHINO ratings, an iREIT premium service that scores all of the REITs in our REIT lab based on durability scoring to include balance sheet ratings, dividend growth, WACC, and risk management. We intend to use this system to analyze the merits of all REITs and each company must score above a certain threshold to be considered a SWAN.
Within our Durable Income Portfolio around 50% of our capital is invested in SWANs. We maintain at least 50% and our goal is to increase that to 65%. Given the more recent pullback in the REIT sector, we believe there is an opportunity to capitalize on shares of these undervalued SWANs.
One of the primary attributes for our SWAN picks is dividend growth, and as you can see (below), most all of the SWANs (in our REIT Lab) have achieved solid earnings growth in 2016:
The REITs with double-digit FFO per share growth include W.P. Carey (NYSE:WPC), PS Business (NYSE:PSB), Essex Property Trust (NYSE:ESS), Taubman Centers (NYSE:TCO), Simon Property Group (NYSE:SPG), and Public Storage (NYSE:PSA).
We have also forecasted the earnings growth for all of the SWANs for 2017:
Notably, Realty Income is forecasted to grow FFO by 8% in 2017 and our other top growers for 2017 include STAG Industrial (NYSE:STAG), PS Business, and Urstadt Biddle (NYSE:UBA). Note that Welltower (NYSE:HCN) is expected to produce flat (or slightly negative) earnings in 2017 as a result of its asset recycling initiatives. However, we expect to see most all REITs generating 4%+ FFO growth in 2017 (the average is 7% growth).
Keep in mind, REITs cannot grow dividends unless they are growing earnings or because they are financially engineering yield. We pay close attention to the REIT's payout ratios in order to determine whether or not the distribution is safe or if it is the subject of the so-called "sucker yield" syndrome. As you can see below, all of the SWANs in our REIT lab enjoy healthy dividend coverage.
We disagree that Realty Income's dividend growth is "drying up" and if anything, we believe the company will continue to generate healthy AFFO per share growth in 2017 and beyond. As I said, I will be writing an article in a few days to validate the growth drivers and dividend safety.
Besides, we believe that most of the media grabbing headlines (like No Surprise Here, Dividends Are Shrinking) are already baked into REIT shares. The issue of a price correction (due to rising rates) and REIT fundamentals are two separate discussions and we see no reason to suggest that REIT dividend growth will "dry up" as a result of investors fleeing over rate fears.
In fact, we believe that if investors do flee to safety, they will continue investing in high-quality dividend growers like Realty Income. There is simply no better place to invest your hard-earned capital than a high-quality stock that has a long track record of paying and increasing dividends.
While it is impossible to eliminate all investment risk, we believe investors can greatly minimize such risk by filtering out disadvantageously positioned securities from the outset. That's why we spend considerable time handpicking our sleep well at night REITs; after all, it takes only a few large losses to decimate overall investment performance, even if many other investments prove successful.
As Benjamin Graham wrote, "one of the most persuasive tests of high-quality is an uninterrupted record of dividend payments going back over many years. We think that a record of continuous dividend payments for the last 20 years or more is an important plus factor in the company's quality rating."
Author's Note: I'm a Wall Street writer and that means that I am not always right with my predictions or recommendations. That also applies to my grammar. Please excuse any typos, and I assure you that I will do my best to correct any errors, if they are overlooked.
Finally, this article is free and my solepurpose for writing it is to assist with my research (I am the editor of a newsletter, Forbes Real Estate Investor) while also providing a forum for second-level thinking. If you have not followed me, please take five seconds and click my name above (top of the page).
The only guarantee that I will give you isthat I will uncover each and every rock I can, in an effort to find satisfactory investments that "upon thorough analysis promises safety of principal and satisfactory return. Operations not meeting these requirements are speculative." (Ben Graham).
REITs mentioned: (NYSE:ACC), (NYSE:AVB),(NYSE:EQR),(NYSE:KIM), (NYSE:REG), (NYSE:FRT), (NYSE:SKT), (NYSE:NNN), (NYSE:HTA), (NYSE:VTR), (NYSE:OHI), (NYSE:LTC), and (NYSE:DLR).
Sources: F.A.S.T. Graphs, S&P Global Market Intelligence and LXP Filings.
Disclaimer: This article is intended to provide information to interested parties. As I have no knowledge of individual investor circumstances, goals, and/or portfolio concentration or diversification, readers are expected to complete their own due diligence before purchasing any stocks mentioned or recommended.
Disclosure: I am/we are long O, DLR, VTR, HTA , STAG, GPT, ROIC, HCN, OHI, LXP, KIM, WPC, DOC, EXR, MYCC, TCO, SKT, UBA, STWD, CONE, BRX, CLDT, HST, APTS, FPI, CORR, NHI, CCP, CTRE, WPG, KRG, SNR, LADR, PEB, BXMT, IRM, CIO, LTC, DEA, NSA, HASI, VER.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.