Selling Brings Higher Income And Long-Term Capital Appreciation With Quality REITs

by: Avi Morris

I began investing in REITs (Real Estate Investment Trusts) about 15 years ago. Those stocks have done quite well while popular averages have been stumbling after peaking in 2000. Double digits high yields attracted me and the dividends were reinvested which produced substantial capital gains along with a sharp increase in dividend income. The best 2 investments are up about 11 and 12 fold. On the other extreme, a "poor" performer, after a major dividend cut (although bankers allowed dividends to be paid), has tripled because of reinvested dividends.

REITs have matured after the rise in REIT stock prices. The days of double digit yields are gone (except for mortgage REITs with yields that price in substantial risk), but basic investment principles have not changed and significant gains can still be obtained. Many foreigners like investing in real estate because they feel a sense of comfort owning property and buildings (assets that they can touch). That thought is still comforting for some American investors. These tangible assets have long-term value that continues whether the economy expands, experiences slow growth or contracts.

Yields for some of the most successful REITs have been reduced to 2-3% because of stock appreciation. But others still offer yields above 4%. Additionally, all publisedh tax status reports in January show how much of the prior year's dividend is taxable. The table below shows 8 REITs with yields above 4% and how much of 2012 dividends were taxed as ordinary income. Higher yields are increased largely due to property investments in niche markets which are not as well understood as traditional investments like apartments, malls and stores.





Senior Housing Properties (NYSE:SNH)








Omega Healthcare Investors (NYSE:OHI)




Campus Crest Communities (NYSE:CCG)




Sun Communities (NYSE:SUI)




Highwoods Properties (NYSE:HIW)




Home Properties (NYSE:HME)








(1) Senior Housing Properties Trust owns independent living and assisted living communities, continuing care retirement communities, nursing homes, wellness centers and medical office, clinic and biotech laboratory buildings located throughout the US.

(2) EPR Properties invests in entertainment and related properties in the US and Canada. Properties with over 200 tenants include 103 megaplex movie theaters and 72 other properties including entertainment retail centers, recreational and specialty properties.

(3) Omega Healthcare Investors provides financing and capital to the long-term healthcare industry, primarily skilled nursing facilities located in the US. The company has mortgages on 477 skilled nursing facilities, assisted living facilities and hospitals located in 33 states and operated by 46 third-party healthcare operating companies.

(4) Campus Crest Communities is a self-managed, self-administered and vertically-integrated developer, builder, owner and manager of high-quality, purpose-built student housing. It has 7,670 beds in 39 properties.

(5) Sun Communities owns and operates 184 manufactured housing and recreational vehicle communities in 25 states concentrated in the Midwest and Southeast with approximately 67,700 developed sites.

(6) Highwoods Properties owns or has an interest in 334 in-service office, industrial and retail properties encompassing approximately 35 million square feet, generally in the southeast. It also owns approximately 649 acres of development land.

(7) Home Properties invests in apartment communities in the eastern US, operating 125 communities with 38,000 apartments in the northeast, Mid-Atlantic and southeast Florida. HME renovates units following move-outs to generate higher rental income.

(8) HCP, Inc. is an integrated REIT that invests primarily in the healthcare industry in the US. Its more than 1,000 properties are diversified among 5 sectors: senior housing, post-acute/skilled nursing, life science, medical office and hospitals. HCP was the first REIT that earned a Dividend Aristocrat status.

SNH has raised annual dividends since 2001 and OHI has raised annual dividends since 2003. The EPR dividend has recovered to a record level in 2013 after a dividend cut in 2009. In April, EPR started paying monthly dividends. The SUI dividend has been flat for 8 years (although it was not cut during the last recession). In its short history, CCG raised the annual dividend 2 cents this year. The HIW dividend has been flat for 10 years (with no cut during the last recession). HME cut the dividend during the last recession, but subsequent raises have brought a record dividend rate this year. HCP has raised its annual dividends for the last 28 years. While dividends are at record levels (except for HIW which cut its dividend 10 years ago) dividends have been uneven for many traditional stocks.

Besides high yields, stocks for these companies have done well during a difficult time in the stock market over the last decade. The best performing stock was OHI which was just a few dollars 10 years ago. SNH, EPR and HCP have doubled, HIW and HME are up about 70% and SUI is flattish. CCG has risen marginally from when it first traded 2½ years ago. The Dow Jones Equity REIT Index (DJR) during the last decade is up 84% to 285 while the Dow Jones Industrials rose 71% to 15,115. Longer term, the Dow is up 31% and the DJR has nearly tripled (with significant dividends).

The recent market sell-off has hit high yield sectors very hard. I see that first hand every time I update my portfolio values. In the last 2 weeks, after reaching a 6 year high of 315, DJR sank 30. Selling may come from worries about a reduction or ending of the bond buying program by the Federal Reserve. The yield on the 10-year Treasury bond has shot up over 50 basis points to 2.16% in May (the highest level in more than a year). That rise is raising mortgage rates on homes and will negatively impact borrowing rates for REITs. Interest cost is typically the largest expense for REITs.

REITs will cope with increased interest costs as in the past. Before 2008, the yield on the 10-year Treasury bond was over 4%, a time when REIT stocks were rising. But short-term momentum for these stocks is negative and more selling probably lies ahead. REIT investments work best for investors with a long-term vision. A stream of dividends which can grow when reinvested raises portfolio values over time. REITs with long-term assets have been through good and bad economic periods. They survived. In addition, the assets on the balance sheet are solid assets which will last for years and decades, providing a sense of comfort. Investors seeking high current income can find these times bring opportunities to lock up high yields in tangible assets with tax advantages.

Disclosure: I am long EPR, HME. 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.