- Investing in bonds and stocks is not enough to generate income in 2020.
- Retirees must become more sophisticated and invest in alternative investments, such as real assets.
- We discuss three market niches that are ideal to income investors and retirees to generate 6%-10% yields in today's yield-less world.
- Looking for a portfolio of ideas like this one? Members of High Yield Landlord get exclusive access to our model portfolio. Get started today »
In the past, retirees had the luxury of investing in a diversified portfolio of bonds and stocks to generate sufficient income in retirement. Today, the idea of retirement has become much more challenging and retirees must develop a more sophisticated investment plan to generate high and safe income.
On one hand, bonds pay close to nothing and produce negative returns after inflation and taxes:
And on the other hand, stocks are not much better. Even after the coronavirus sell-off, yields remain exceptionally low and it sure does not feel that investors are getting compensated for the risk undertaken:
With traditional bonds and stocks out of the picture, retirees must become more creative than ever to generate passive income in 2020. Unless you have millions to invest, you will have to find alternative investments with greater yields.
At High Yield Landlord, we believe that the best opportunities to generate high income are real-asset backed investment sectors:
- The represent essential infrastructure.
- They are mostly resilient to the cycle.
- They generate contractual income.
- They are inflation protected.
- They are less volatile.
Now this does not mean that you should go out and buy high-yielding shares of just any REIT, MLP or infrastructure company. Yes, they own real assets, but not all real assets are created equal. Some are more cyclical than others, and most importantly, some are more exposed to the recent pandemic.
Below we outline three overlooked market niches that are ideal to generate high and steady income in today’s uncertain environment.
#1 - Pandemic-Proof Equity REITs
Retail, office and hotel REITs are greatly affected by the recent pandemic. People are not spending money at malls. They are not commuting to work. And they sure aren’t taking holiday trips. Therefore, these three real asset sectors are experiencing significant stress and dividends are at risk.
However, there also exists a number of property sectors that are mostly unaffected by the recent crisis.
Class B Apartments: Everybody needs shelter. And affordable housing with low income-to-rent ratios should fare fairly well even in a deep recession. Some rents will be missed in the short run, but the cash flow should remain resilient to the most part. Independence Realty Trust (IRT), a conservatively financed Class B apartment REIT, recently noted that payment collection was strong in April and that they have plenty of liquidity to face the crisis. Their share price is trading at a 35% discount to NAV and it pays a fully-covered 7.5% dividend yield.
E-commerce Distribution Centers: Amazon (AMZN) is booming right now because people are sitting at home, bored out of their mind and shopping online. They are in a rush to hire another 100,000 employees to handle the increased demand. REITs that own distribution centers and lease space to Amazon-type companies are doing great in this crisis. Monmouth Real Estate (MNR) is one of the most e-commerce exposed REITs with a diversified portfolio of industrial properties. Its average remaining lease terms are eight years and about 80% of its rent comes from investment grade rated clients. The company has never cut its dividend, not even in 2008-2009. Right now, it yields 5.5% and trades at an estimated 30% discount to fair value.
Medical Office Buildings: Healthcare infrastructure is just as essential as drugs to fight this pandemic. REITs that own high quality medical office buildings are in a good position to continue earning steady cash flow through this crisis. Physician Realty Trust (DOC) is a blue-chip with a strong investment grade rated balance sheet and a track record of 15% annual total returns since its IPO. Right now, it's moderately discounted and offers a 6% dividend yield.
Apartments, distribution centers and medical office buildings are just three examples among many other resilient property sectors.
Some REITs will greatly suffer from the pandemic, but others won’t, and now offer great opportunities. Defensive REITs that commonly trade at 3%-5% dividend yields are now offered at 6%-8% yields after the sell off. This is a great opportunity for retirees, and we are buying at High Yield Landlord.
#2 - Real Asset Backed Preferred Shares
Preferred shares pay higher and safer income than common shares. On the other hand, they generally have lower growth and appreciation potential.
Most importantly preferred shares are higher on the capital stack and all dividends and / or liquidation proceeds are senior to common shares. Therefore, they are ideal investments for retirees who are more interested in dependable income than in future growth.
However, we would not invest in just any preferred share. Most of them have little assets to back them up in case of things turn south and offer worse risk-to-reward than common shares.
We invest in preferred shares that:
- Are backed by real-assets and contractual income.
- Forced to pay dividends for tax reasons.
- Trade at discounts to par value.
- Have significant common equity cushion to absorb losses.
These features provide additional margin of safety in case things turn south. On the flip side, if things go as planned, they also have additional upside potential as they reprice closer to par value.
Right now, there exists exceptional opportunities to earn >8% yields in a 0% interest rate world because the market is still in panic mode. We don’t expect these yield levels to last for long.
A good example are the Series D preferred shares of UMH Properties (UMH.PD) which currently offer an 8.5% dividend yield and ~30% upside to par value. The company owns a diverse portfolio of manufactured housing communities that generate resilient income even in times of crisis. Sure, some rents will go unpaid in this crisis as people lose their job, but to the most part, the cash flow will be defensive and there will be plenty of it to service the preferred shares. We recently interviewed the management for members of High Yield Landlord and the company explains that they expect to even maintain their common dividend.
We own a portfolio of 12 preferred shares. We call it the “Safe Haven” Portfolio.
#3 - Asset Backed Property Loans
This last one has been a real Safe Haven for us during the recent crisis. We invest in a diversified portfolio of private property loans through various crowdfunding platforms.
These loans are not risk free, but they are safer than traditional equity investments because they have a low ~60% loan to value on average and first-rank priority in case of trouble. The equity holdings have to lose everything before the loan investor loses a penny.
So there's a ~40% built in equity cushion in each investment and the borrowers sure do not want to lose this equity by going in default. Therefore, they will do anything they can to meet payments and remain current on their loans.
Occasionally, you suffer losses. That's inevitable. But on average, we have been able to earn ~8% per year from these investments. I'm yet to suffer any losses. I have been through a few property foreclosures and each time the crowdfunding platform was able to recoup full principal plus interest.
What's also nice about these investments is that they have a short 12-month duration. Therefore, we are getting a steady stream of loan repayments. It allows us to gradually redirect capital towards the now opportunistic REIT investments.
In today’s 0% interest rate environment, retirees must become more sophisticated than ever and target alternative investments to generate sufficient income.
Simply investing in bonds and stocks isn’t enough anymore.
We believe that real asset investments are the answer. Their returns are primarily income and this income is backed by essential infrastructure that our society desperately needs. By building a diversified real asset portfolio with some defensive REIT investments, real asset preferred shares, and asset back loans, investors may today earn up to 8% yields.
Don’t take it just from me. Large institutional investors, such as pensions plans, are currently rushing toward real asset investments to generate income in today's yield-less world
Brookfield (BAM), a pioneer in real asset investing, expects an additional $45 trillion to move into real asset investments over the coming decade:
We believe that you can profit from this capital shift by investing ahead of the crowd. Real assets are the only remaining option to generate high and reliable income in 2020. We already have adapted our portfolio for this new reality, have you?
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This article was written by
Jussi Askola is the President of Leonberg Capital, a value-oriented investment boutique that consults hedge funds, family offices, and private equity firms on REIT investing. He has authored award-winning academic papers on REIT investing, has passed all three CFA exams, and has built relationships with many top REIT executives.He is the leader of the investing group High Yield Landlord, where he shares his real-money REIT portfolio and transactions in real-time. Features of the group include: three portfolios (core, retirement, international), buy/sell alerts, and a chat room with direct access to Jussi and his team of analysts to ask questions. Learn more.
Analyst’s Disclosure: I am/we are long DOC; IRT; UMH; MNR; BAM. 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.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.