Bypass The High-Flying SWANs For These 4 Up-And-Comers Instead

Oct. 28, 2019 9:18 AM ETBPYU, BPY, BRX, DOC, QTS66 Comments


  • There could be an excellent buying opportunity for investors who know how to get greedy in the face of others’ fear.
  • Normally, I’m all about recommending SWANs.
  • But for the purpose of this article, we’re skipping SWANS and going with SWAN-a-Bees instead.
  • Looking for a portfolio of ideas like this one? Members of iREIT on Alpha get exclusive access to our model portfolio. Get started today »

The third-quarter 2019 earnings season is in full swing. And despite some analysts’ expectations for overall lackluster results…

Things are looking pretty good, all things considered.

It’s true that certain big-name companies have had their misses. For instance, Caterpillar (CAT) missed expectations on both earnings and revenue. Worse yet, it lowered its full-year earnings guidance thanks to global weakness.

As Forbes notes, “Given its exposure to China, CAT has been considered an indicator for how well things are going in the trade dispute between the United States and the Asian nation…”

Then there was Boeing (BA), which showed adjusted earnings of merely $1.45 per share instead of the predicted $2.09. With that said, despite its ongoing 737 issues, revenue actually came in a bit better than anticipated.

And – as Forbes also mentioned – Texas Instruments(TXN) disappointed as well, leading to its shares “getting beaten like a rented mule” on Wednesday. Moreover, it’s not promising anything better in its next report.

But, again, that’s the bad news.

There’s plenty of upside out there as well.

Excellent Buying Opportunities – Except With These REITs

As of Friday, October 18, CNBC reported that, “with 15% of the companies in the S&P 500 reporting results, 84% had posted positive earnings surprises and 64% had reported positive sales surprises, according to FactSet.”

And as of a week later, on October 25, the U.S. market still didn’t seem to be objecting too much to what it saw. For one thing, Intel(INTC) did significantly better than forecasters were saying it would. The computer chip company came in with $1.35 per share instead of $1.24.

While that was still down from last year’s third quarter, it was still apparently something to celebrate.

Visa, meanwhile, gave even better news, revealing earnings of $3.03 billion – a strong showing over its $2.85 billion profit from the same time last year. And there were similarly solid showings from Microsoft (MSFT), Tesla (TSLA) and Blackstone (BX).

In short, clearly, the markets could be better. But clearly, they could be a whole lot worse. Besides, even for those businesses that didn’t provide the most welcome news possible…

This could be an excellent buying opportunity for investors who know how to get greedy in the face of others’ fear. That’s by looking at companies that everyone (at least every rational person) knows are going to bounce back… particularly as soon as the U.S.-China trade war gets resolved.

I wish I could say the same thing when it comes to real estate investment trusts, or REITs. But, honestly, the majority of the most worthwhile among them – which I call sleep well at night stocks, or SWANs – are getting lots of love these days.

Lots and lots of love.

Normally, I’m all about recommending SWANs. But not when they’re priced like this (remember, SWAN stands for “sleeping well at night”).

They’re just not worth it for new investors to buy in as-is.

Buy on Arithmetic

As anyone who follows me knows, I’m not normally one to recommend buying into soundly valued stocks. For the most part, I’m a loyal adherent to Benjamin Graham’s value investing model.

He once said to, “Buy not on optimism, but on arithmetic.” Along those same lines was his belief that, “The intelligent investor is a realist who sells to optimists and buys from pessimists.”

I’ve found those words to be wise over and over again in my own experience. Which is why valuation is such a big factor in my recommendations.

My followers saw that (once again) in my October 18 piece, “The High Price of SWANs… And 3 You Can Still Afford”:

“That’s why I’ve composed the following Sleep Well at Night (SWAN) stocks that just aren’t worth buying into. Not right now. Not at the valuations they’re at.

They’re worth a lot, mind you. Just not this much.

Feel free to put them on your watchlist since they’re highly respectable companies with very reliable dividends.”

For the record, the SWANs in question were Realty Income (O) and CyrusOne (CONE). When it came to Realty Income in particular, here’s what I wrote:

“Up until January, it was our #1 holding, but we decided to trim a few shares in Q1 to redeploy proceeds into our new #1 pick. Realty Income makes up 6.25% of the Durable Income Portfolio, and our first investment in it was in September 2014.

And since Jan. 1, it has returned 27.91%, which is almost identical to VNQ’s 27.92%. Given its rapid price appreciation year-to-date, we opted to move Realty from a buy to a Hold/Trim.”

I’m not trying to tease you there. Truly. And, as the article’s title indicates, there are SWANs I could still recommend right now. (At least there were as of October 18.)

But for the purpose of this article, we’re skipping SWANS and going with SWAN-a-Bees instead.

Note: This week we’re telling Marketplace members why we still own a healthy position in Realty Income.

Source: Yahoo Finance

Bring on the Swan-a-Bees!

For those of you who don’t know, SWAN-a-Bes are SWANs-in-the-making. They’ve got great potential to become true sleep well at night stocks. But they’re not there quite yet.

As such, they’re usually a bit (not much though) cheaper to buy.

Physicians Realty (DOC) is our first swan-a-bee, a medical office building (or MOB) REIT with a portfolio of 237 properties and approximately 13.6 million gross leasable area. While MOBs surrounding some hospitals may be strong investments, superior risk-adjusted returns can often be found off-campus through the targeting of high-quality properties occupied by investment grade systems.

DOC’s portfolio provides very durable sources of income, that includes best-in-class occupancy of 96% and long-term lease contracts (weighted average lease term of 7.5 years). The company also has well-laddered debt maturities with no loans coming due until 2022. The company is also investment grade rated (BBB by S&P) with solid fundamentals to support the rating agencies underwriting.

DOC has under-performed peers year-to-date (+17.2%) and we find shares attractive given the P/FFO discount (-4.9% vs 5-year norm) with a current P/FFO multiple of 17.8x. DOC’s current dividend yield is 5.1% and the payout ratio has continued to decline (now around 85% based on FFO).

The company is also back to offense stating on the last earnings call that it was under contract or finalizing contracts on “more than $75 million of new investments” DOC’s acquisition guidance for 2010 is $200 million to $400 million of investments assuming favorable capital market conditions. We maintain a BUY.

Source: FAST Graphs

Brookfield Property REIT (BPR) and Brookfield Property Partners (BPY) are two economically identical ways to profit from Brookfield Asset Management's (BAM) global real estate empire.

BPR/BPY is diversified (geographically and by property sector) with one of the largest portfolios of office, retail, multifamily, industrial, hospitality, triple net lease, self-storage, student housing and manufactured housing properties. The company's investment objective is to generate attractive "long-term returns on equity of 12%−15% based on stable cash flows, asset appreciation and annual distribution growth of 5%−8%."

Despite what the unit price of BPY might indicate over the last few years, management has done its job well, growing operating cash flow (FFO/unit) by 8% over time and the payout by 6%. Recently I explained that "the historical cash flow/dividend growth rate of REITs over the past decade has been about 3%, meaning BPY (and now BPR) is growing the distribution/dividend at double the sector norm."

The cash flow is growing faster and that means that the payout ratio is safer (around 67%). As I explained previously, "by 2022, Brookfield Property expects the operating cash flow payout ratio (which doesn't include capital gains) to fall from 90% to 80%, a safe level considering how rapidly its capital gains are growing."

BPY/BPR is investment grade rated (BBB by S&P), and maintains comparable investment-grade leverage metrics (~50% LTV) - the company has around $6.2 billion in liquidity (second only to Simon Property with $6.8 billion). BPY/BPR has returned 26% year-to-date, yet we still find shares attractive based upon the P/FFO of 11.7x and dividend yield of 6.78%.

Source: FAST Graphs

QTS Realty (QTS) is the smallest Data Center REIT and the company provides an integrated platform of colocation, cloud and managed hosting solutions designed to simplify strategies for its customers by delivering increased IT efficiency and reduced capital expenses. As of Q2-9, the company operates 26 data centers in 14 markets and is poised to deliver world-class infrastructure and value-added technology services to more than 1,000 customers in North America, Europe, Asia and Australia.

According to filings, QTS’s "powered shell capacity represents 5+ years of growth" (2.9M SF at full buildout) and "has the ability to double its footprint in prebuilt powered shell".

QTS also has "existing capacity in strategic hyperscale markets such as Dallas and Ashburn to support capital efficient future growth". In addition, it "has land available in a majority of key markets already acquired and pad-ready".

Although not investment-grade rated (S&P rating is BB-) QTS has a strong balance sheet (net debt to LQA adjusted EBITDA of 5.1x4) with $147 million of undrawn forward equity proceeds remaining in the credit facility (as of Q2-19). The company’s 2019 capital plan is fully funded with no significant debt maturities until beyond 2021 (and ~75%+ of debt is subject to a fixed rate).

Q2-19 was one of the best leasing quarters in QTS' history: "Net leasing results over last 6 quarters up 41% vs. prior 6 quarter period, with hybrid colocation representing more than two thirds of that volume. This strong leasing activity resulted in near record booked-not-billed backlog of $68M" as of Q2 -19.

Although QTS has enjoyed robust growth year-to-date (shares have returned 45%), we maintain a BUY as the forward-looking potential looks promising. QTS is forecasted to grow FFO by ~10% over the next two years. Currently shares are trading at 20x P/FFO with a dividend yield of 3.4% (CONE is trading at 21x and EQIX is trading at 25x).

Source: FAST Graphs

Brixmor Property (BRX) is one of the largest shopping center REITs in the US with a portfolio of 421 shopping centers consisting of a non-discretionary, value-oriented retail mix with strong service component (~70% of centers are grocery-anchored). The well-diversified portfolio has over ~5,000 national, regional, local tenants with an impressive list of anchors including Publix, Kroger, and TJMaxx.

Brixmor's diverse group of tenants continue to open new stores and strong omnichannel (bricks and clicks) delivery is what differentiates the winners from the losers. Brixmor is seeing improved lease spreads of 34% (in 2019) as the company replaces weaker tenants with stronger ones. In turn this drives base rent higher, which is a trend that we expect to continue.

Brixmor has seen strong re-development as spending year-to-date has yielded exceptional 9%+ returns on investment, and it has also been buying back stock ($15 million this year), a sign that there is strong alignment of interest.

Brixmor also has an investment grade rated balance sheet (BBB- by S&P) with stable or positive outlooks from all three rating agencies. Around 96% of debt is fixed-rate (over nearly six years) and costs are low (average 3.7% interest rate). The company has $1.1 billion in revolving credit with the strongest FFO coverage ratio (of ~59%) in the sector. Also, the company has grown its dividend by an average of 7% over the last five years.

Brixmor has returned over 49% year-to-date as shares bottomed at $14.69 in late 2018, when it was about 33% undervalued (thus was a "strong-buy"). We consider a reasonable buy, shares are about 5% undervalued and can realistically deliver 6% to 12% returns, which is likely to match or exceed the 5% to 8% CAGR returns of the S&P 500 over the next half decade.

Source: FAST Graphs

Later this week I plan to provide a deep analysis of our core portfolio with a mix of SWANs and SALSA (+26% YTD and 22.6% annually since 2013). This portfolio validates the fact that the best way to sleep well at night is to purchase shares with a definitive margin of safety.

Author's note: Brad Thomas is a Wall Street writer, which means he's not always right with his predictions or recommendations. Since that also applies to his grammar, please excuse any typos you may find. Also, this article is free: Written and distributed only to assist in research while providing a forum for second-level thinking.

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This article was written by

Brad Thomas profile picture
Author of iREIT on Alpha
The #1 Service For Safe and Reliable REIT Income

Brad Thomas is the CEO of Wide Moat Research ("WMR"), a subscription-based publisher of financial information, serving over 6,000 investors around the world. WMR has a team of experienced multi-disciplined analysts covering all dividend categories, including REITs, MLPs, BDCs, and traditional C-Corps.

The WMR brands include: (1) The Intelligent REIT Investor (newsletter), (2) The Intelligent Dividend Investor (newsletter), (3) iREIT on Alpha (Seeking Alpha), and (4) The Dividend Kings (Seeking Alpha). Thomas is also the editor of The Forbes Real Estate Investor and the Property Chronicle North America.

Thomas has also been featured in Forbes Magazine, Kiplinger’s, US News & World Report, Money, NPR, Institutional Investor, GlobeStreet, CNN, Newsmax, and Fox. He is the #1 contributing analyst on Seeking Alpha in 2014, 2015, 2016, 2017, 2018, and 2019 (based on page views) and has over 102,000 followers (on Seeking Alpha). Thomas is also the author of The Intelligent REIT Investor Guide (Wiley). 

Thomas received a Bachelor of Science degree in Business/Economics from Presbyterian College and he is married with 5 wonderful kids. He has over 30 years of real estate investing experience and is one of the most prolific writers on Seeking Alpha (2,800+ articles since 2010). To learn more about Brad visit HERE.

Disclosure: I am/we are long O, CONE, DLR, DOC, BPY, QTS, BRX. 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.

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