Reorganization Stores Opportunity In This REIT

| About: Global Self (SELF)
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Summary

SELF was formerly a closed-end income fund, and is now reorganizing as a REIT investing in personal storage units.

Legacy investors are selling because confused by the change, but new investors are not yet aware of the opportunity, leading to the current undervaluation.

SELF has an 8% annual yield trades at a 30% discount to NAV (at $3.25 stock price.) Comparable large-cap storage REITs yield around 3%.

If yield were to drop to just (6%), twice that of typical large-cap self storage REITs, investors would see a 40%+ total return over a year.

(Editor's Note: Investors should be mindful of the risks of transacting in illiquid securities such as SELF.)

According to NAREIT, there are currently four self-storage REITs with a total market cap of $41 billion and average yield of 3.17% as of the end of April. Investors can't get enough of these: they have produced a total return of 19% so far this year on top of a return of 9.5% in 2013.

With such high recent returns and low yield for what are essentially income investments, investors could be forgiven for wondering if they have come too far: the 145 REITs in the FTSE NAREIT All Equity REIT index produced total returns of 11.8% so far this year, after a 2.9% gain last year.

Note to SELF: Check Out The New REIT On The Block

One self-storage REIT which has been going in the exact opposite direction for the simple reason that REIT investors do not yet know about it.

Self Storage Group, Inc. (OTCQB:SELF) is closed-end fund, formerly known as the Global Income Fund. In February 2012, shareholders approved a reorganization to convert the fund into an operating company investing in professionally managed self storage facilities. The company elected to be taxed as a REIT for the first time in 2013.

As of the end of 2013, the transition was mostly complete, with 81% of assets invested in seven fully-owned self-storage facilities, and the balance in publicly traded REIT stocks.

Know ThySELF: The Numbers

In 2013, SELF paid total dividends of $0.347, or 10.7% of the current stock price, most of which was capital gains distributions. This was higher than would be expected from the regular $0.065 quarterly distributions and the company's policy of paying 5% of net asset value to shareholders on an annual basis in order to comply with the IRS requirement that REITs distribute at least 90% of income to shareholders. In 2013, most income was capital gains as the company sold publicly traded REITs which had appreciated and bought storage facilities directly, but that should change now that the portfolio is mostly storage facilities.

If the quarterly dividend stays at $0.065 for all of 2014, the annual yield will be 8.0% at the current price of $3.25, but the yield could be higher because publicly traded REITs still composed 19% of the portfolio at the end of 2013, and any sale of these assets will likely result in additional capital gains.

Even an 8% yield is more than twice the average yield of the four large self storage REITS (CubeSmart (NYSE:CUBE), Public Storage (NYSE:PSA), Extra Space (NYSE:EXR) and Sovran Self Storage (SSS)) tracked by NAREIT. To be sure, these other REITs are proven and all have market capitalizations over $1 billion, while Self Storage Group is untested and has a market cap of only $24 million. Still, the wide disparity in valuation seems to more than compensate for the difference. If the price were to rise to $4.33 (still a 7% discount to NAV) and the yield to fall correspondingly to 6%, investors at the current price of $3.25 would see a 33% capital appreciation and 8% dividend payment for a total return of 41% over the next year.

Warn ThySELF: Risks

Liquidity. SELF is a micro-cap stock with very limited liquidity. Average daily volume over the last three months is only 11,000 shares. Limit orders should be used in preference to market orders to avoid paying significantly more than you expect. I built up my stake slowly over the last two months using a series of good-til-canceled limit orders, starting at $3.60 and a new one entered at a lower price after each order was filled.

Greenery. For my regular readers who are used to me writing about green stocks, SELF is, in my opinion, not green. I consider it mildly "brown" in the sense that self-storage promotes our culture of over-consumption. I would never have come across it except that a client had the former closed-end fund in her portfolio for income, having purchased it long before good green income stocks were available. When I looked in to it, I found the investment case too compelling to pass up. (For good green income options, see the first six of my 10 Clean Energy Stocks for 2014 and the most recent monthly update.)

Poison Pill. SELF recently adopted a Shareholder Rights Plan, also known as a "poison pill" takeover defense and something I usually consider a red flag. However, the purpose of this plan seems to be to maintain compliance with the IRS requirement that no more than 50% of a REIT's outstanding shares be owned by five or fewer individuals. In this context, the rights plan seems appropriate.

Buy ThySELF: Insiders

With tiny stocks like SELF that have few sophisticated investors watching them, I put great store in the trading activity of insiders. If managers and board members are hoping to enrich themselves at the company's expense, they will be unlikely to buy the stock, and will most likely be actively selling it. There has been no selling and one insider purchase of 4000 shares at $3.92 in the last year.

I find this somewhat reassuring, even though it is not the active buying I like to see in a stock which, like this one, seems significantly undervalued.

Repeat ThySELF: This Has Happened Before

Despite the risks of investing in a tiny, illiquid stock like SELF, the massive undervaluation makes the current price quite compelling. This sort of undervaluation is not unusual when a little-followed company is in the midst of a restructuring.

Long-time readers may recall my articles about New Flyer Industries (OTC:OTCPK:NFYEF, formerly NFYIF) in 2011, when that company was transitioning from an unusual IDS "stapled" security to a more normal corporated structure. Investors in the IDS were selling because they did not like the loss of income, even though it was necessary to maintain solvency in an industry downturn. They drove the stock down as far as $5, at which point it the yield was 11%-- even after the dividend cut. In the three years since the conversion, the stock price has more than doubled and the dividend has been maintained. Part of that gain was doubtless due to New Flyer's strengthening business progress and the general market advance.

These factors are unlikely to be repeated in the case of SELF, but a 50% rise in the current price does not seem out of the question, even if the rest of the self storage REITs give back some of their recent gains. Once REIT investors become SELF-aware, a significant rise seems very likely.

Disclosure: I am long SELF. 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.

Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.