The Sky Is Falling: Buying REITs In A Rising Rate Environment - A Brown Bag Portfolio October Review

by: Michael Hesse


October was rough, but should you believe the Bears and flee the market?

The Contrarian View: Why REITS could be your best bet in a rising rate environment.

Down, but not out: The Brown Bag Portfolio survives October.

the sky is falling

Wow, that was fun, huh? Unless you’ve been off the grid for the past month you’re already aware that October continued it’s reign as the king of volatile months. The reasons for this are varied, but the usual culprits have been identified, namely: Selling by hedge funds to capture gains/limit losses for the year, Federal Reserve-induced tantrums due to rising interest rates, fear over the upcoming midterm elections, and growing signs of an economic slowdown/recession. According to the Bears you’d have to be a moron to have any money in the market, and according to the Bulls you’d have to be a moron not to be fully invested.

So what’s the truth? Like always, it’s most likely somewhere in between the two extremes. The Bears will be right - at some point - and when they are, they will flood the airways with their smug denunciations of anyone who ever disagreed with them. Youtube will be filled with clips of Bulls forecasting utopian growth projections and another generation of investors will be scared into believing that the system is rigged against them. Of course the Bears have been shouting that the next market collapse is just around the corner for the last ten years and if you listened to them then you’d have missed out on the greatest bull market in history.

It’s easy to be a Bear, there’s no risk. There’s no reward either, until that tragic day comes and the market collapses and they get to do their happy dance on television over the smoking ruins. It’s inevitable. There will come a day when everything collapses, but it’s likely not now. My personal belief is that the collapse comes the day after every talking head says that it can’t happen. When the experts all agree that the sun will never set, that the bull market can’t be derailed, that’s the day it comes tumbling down.

Why? Because experts believe in models or more accurately they believe that models reflect reality. They forget that models make basic assumptions, assumptions that are frequently wrong. They make correlations between disparate facts that may or may not be related. They drop variables that seem minor or can’t be adequately accounted, and they project into the future. What they can’t model is the impact of all the variables that they didn’t include or couldn’t include because those variables didn’t exist (or were unknown) at the time of the model’s creation. The further that one pushes the projection into the future the less accurate the model becomes.

Now, not to wade into the minefield of the manmade climate change debate, I wish to simply point out that the models that we’re assured are accurate and reflect reality are frequently wrong. On April 28, 1974 Newsweek published an article on the coming Ice Age . . . here and in 1975 the New York Times also published a story about the growing cooling trends and how this may be leading towards a coming Ice Age . . . here. Now the consensus (driven by many of the same scientists) is the exact opposite. Many of the global warming models predicted that the Arctic would experience ice-free summers by no later than 2016 here and here. Amusingly eight other links to news articles and government reports from the UK, Canada, and the US also detailing the end of summer Arctic ice by 2016 have been removed. This isn’t meant to endorse one side of this debate or the other, but merely to illustrate the fallacy of models and basing your decisions upon them (whether monetary or climate related).

As far as I can tell the problems in both the market and climate models come from two main areas: sampling errors and a lack of included variables. Both of the systems these models attempt to reflect are enormously complex (by many factors greater than their current flawed iterations) and don’t account for those pesky humans who frequently act in (to the modeler) an illogical or an incorrect manner.

Now before I get flamed for heresy (for being either a climate denier or a climate apologist), let me remind my readers that I’m not endorsing either view, I’m simply pointing out the inherent flaws in modeling incredibly complex systems. Hurricane models are fairly accurate, but only within a few days of the event. Living in a hurricane-prone state, I’m acutely aware of how drastically these models change (even within hours of landfall). Following these models and evacuating your home may very well be the correct course of action (as it would have been this year for the residents of Mexico Beach), but how many residents fled the east coast of Florida last year for Irma only to discover that it roared up the center of the state pounding many who never thought they’d need to leave?

Again I use this example only to point out the inherent inaccuracies of the models, even those that have a generally good track record. A prudent investor will take note and diversify his or her portfolio to include those sectors that do well during a slowing economy. However, I’d caution you to be wary of “facts” that ‘everyone knows.’

One of those facts is that real estate and REITs (Real Estate Investment Trusts) in particular will perform poorly in a rising rate environment. This is a well-known “fact” that is completely wrong. Even with the Federal Reserve steadily pushing up interest rates, we still live in a historically low rate environment. Older readers in the Gen-X and Boomer generations know this because they lived it. In October of 1981 home mortgage rates topped out at 18.45%. Although few people actually had an eighteen percent mortgage, I know that my parents bought the most expensive home they ever owned with a 14% mortgage. People and businesses adjust.

Although it is true that rising rates will put pressure on the credit markets and Real Estate is capital intensive, REITs have historically performed will in all markets. Between 1992 and 2017, REITs have outperformed all other asset classes:

Real Estate Investment Trusts

OK, that may be true overall, but how do they perform during specific rising rate environments? Well, honestly, they do pretty well then too:

REIT performance

Now they haven’t always done well, but overall they have done extremely well. Please note the June 2003-June 2006 line in the above chart. Does it look similar to what’s going on today? We’ve just crept into the 3% range and I wouldn’t be surprised if over the next two years or so we end up in the 5% range. REITs did spectacularly well during that period. Now past performance isn’t indicative of future results, but as Mark Twain said, “history doesn’t repeat, but it often rhymes.”

Now, how could this be? If it costs more to do business, how can you perform better with greater costs? I’m no expert, I’m a computer technician not an economics professor, but offhand I’d say that rising rates are usually due to a growing economy and a growing economy is good for business and REITs in particular.

Now, I’m not advocating any particular REIT in this article, although they currently make up the largest percentage of my portfolio and I expect to add at least one and possibly two more REITs in 2019.

So with all this said, how did the Brown Bag Portfolio do in this past month? The short answer is not well. Everything I own got hit. I did, however, take the opportunity to add shares to two of my favorite positions: Enterprise Products Partners (EPD) and EPR Properties (EPR). I’ve written specifically about both of these companies in the past month or two and decided to put my money where my mouth is. The article on EPR can be found here for those that are interested and the article on Enterprise Partners here.

Where the Portfolio stands today:

BBP October 2018




Cost Basis


% Return


Annual Div



































































*New Position

** Increased Position







Div Goal

% of Goal

BBP Yield %




I did reach a milestone during October, and that was reaching 10% of my dividend goal. For those who are new readers of my articles I’ll just quickly state that the goal of the Brown Bag Portfolio is to reach $16,800 in dividends paid each year which will pay for my mortgage, taxes, and insurance on my home. I have approximately 14 more years to achieve this goal and provide monthly updates along the way.

The portfolio itself was created July 5, 2016, with an initial investment of $150 and is primarily funded with my discretionary income. Initially this was the money that I saved from not eating my lunches out and brown bagging it (thus the name).

Because the value of the portfolio changes (sometimes dramatically) month to month I’ve also been including an Out of Pocket chart for those readers who are interested. I include this due to the fact that my strategy for the BBP is to buy (hopefully) high quality dividend issuing equities and DRIP (dividend reinvestment program) all dividends. This is to take advantage of compounding interest.

Out of Pocket:

Out of Pocket

as of Oct 31


OOP Shares


Shrs frm Div

Div Rcvd

Current Value

Actual Rtrn






























































Some readers have commented that they turn on or off their DRIP depending upon whether or not the company is currently above or below their cost basis, but for me it’s 100% DRIP. This is primarily due to the fact that I have limited funds available and I need my holdings to grow even when I’m not making additional purchases.

I’m taking the long view here and don’t expect to sell any of my positions unless the underlying story changes. I will also be strategically adding to my current holdings when the price makes sense to me. None of my positions are “full” yet and in fact I’m still working out what a full position will be.

As far as the future holds I expect to add to most of these positions during the coming year and will add one to two new REITs in the coming months. Unfortunately with the holidays quickly approaching I’m turning to zero-ing out my credit card before I make any additional purchases.

Author’s Note:

If you found this article useful, please consider following me (check the little box at the top). That way you'll be sure to receive each of my articles when published. In addition if you know a new investor or someone who's interested in dividend investing, please consider sending them a link. I hope to encourage other new/young (younger than me) investors to put aside a little money each month and make investing work for them. Thank you.

Disclosure: I am/we are long D, PEGI, APLE, EPD, EPR, T, MAIN, OXLC.

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.