Kimco Realty, Developers Diversified Realty: Shopping Center REITs Bargains

Includes: DDR, KIM
by: George Spritzer, CFA

I purchased two shopping center REITs on price dips yesterday: Kimco Realty (NYSE:KIM) and Developers Diversified Realty (NYSE:DDR).

I have a friend/neighbor who inherited and now runs a private family business (which started around 50 years ago) where they own a large portfolio of small neighborhood shopping centers and retail stores. The stores are not located in upscale neighborhoods, but in areas where most of the residents have middle class or lower middle class incomes. She tells me that they almost never have a vacancy- in fact, people are lined up waiting for stores to vacate. The key is that these stores and shopping centers are located in areas with high population density and no available space to build more stores. These properties are basically cash cows.

For those of us not fortunate enough to inherit such a solid business, a good alternative may be to own stocks like Kimco and Developers Diversified. Here are some stats on these two stocks.

I use FFO (fund from operation) instead of price earnings ratio. (To compute FFO, you add depreciation and amortization back onto EPS. This is a superior measure for REITs, since it better measures cash flow.)

1) FFO: Kimco's trailing 12 month FFO multiple is 19 times, while its forward 12 month FFO is around 16.5. For DDR the trailing FFO is 18.5 times and the forward 12 month FFO is around 14.5. So DDR is cheaper.

2) Quality: I think we are entering a market environment where it will be very important to own high quality stocks. Both of these stocks are high quality, but Kimco has a definite edge here, since its S&P Quality Ranking is A+, while DDR's S&P Quality Ranking is A-.

3) Yield: KIM yields 3.4%, DDR yields 4.70%.

There was recently an article in Forbes where hedge fund manager Jon Fosheim, of Oak Hill REIT, recommended the following pair trade: go long DDR and sell short KIM. He felt that KIM was over-priced by around 3% and DDR was underpriced by about the same amount. The prices have changed somewhat since last week and it is quite possible that Mr. Fosheim has changed his opinion since then. I believe Mr. Fosheim's article has provided a good buying opportunity for Kimco stock which has recently dropped in price.

In my opinion, both KIM and DDR are attractive at these price levels (or at least more attractive than most other stocks). It is true that DDR is cheaper based on FFO which may have influenced Fosheim's valuations, but I think the high quality of Kimco also makes it attractive especially if we have a flight to quality later this summer.

Full Disclosure: I am long KIM and DDR.

KIM vs. DDR 1-yr chart: