The Time To Buy REITs Is Right Now

Summary

• A lot of investors claim that it's too late to buy the REIT recovery.
• In reality, prices remain very attractive even after the recent rally.
• As we reopen the economy, rent collection rates will quickly recover and yield-starved investors will rush back to the REIT market. We are still buying.
• Looking for a portfolio of ideas like this one? Members of High Yield Landlord get exclusive access to our model portfolio. Get started today »

We have all learned from the past that it's very profitable to buy REITs after market crashes. They always have fully recovered, 100% of the time. As long as you have a diversified portfolio of well-selected REITs, you are likely to earn very rich returns in the long run.

Yet, when the crash really happens, very few have the courage to buy more and many end up even selling at the worst possible time.

At the lowest point in March, the Vanguard Real Estate ETF (VNQ) was down by an 43%. Investors were rushing out of the market and sentiment was extremely negative:

Fast forward by just two months, and REITs are up by 50% and half of the losses have already been erased.

Investors were not buying in March due to due to fears of dropping prices. Today, the same investors are still stubbornly waiting for the lower prices.

They were wrong to not buy in March. And they are wrong again today.

The time to buy REITs is right now. Here are five reasons why:

Reason #1: You Cannot Time the Market

Those who missed out on REITs in March also missed out in April, in May, and probably continue to miss out today. They did not get in at the lowest point, and since then, they have been waiting for these prices to return.

That implies that you are able to time the market. But just like you failed to time the market in March, April and May, you will probably fail again.

As Ray Dalio explains in a recent interview, timing the market is more difficult than winning a gold medal in the Olympics.

A lot of investors are sitting on sidelines with their cash on hand waiting for REITs to drop back. Unfortunately, you might be waiting for a long time, possibly forever. Anything can happen in the short run, but those who buy today and remain invested will likely beat those who try to time the market.

Reason #2: The Drop was Unwarranted

The VNQ ETF was down by 43% in March. This is the performance of a market-cap weighted ETF that's full of data center, cell tower, and other tech REITs in its top holdings. If you remove those, the average of the sector was down more than 50%.

As a result, REIT sector valuations dropped to a 10-year low. It was a historic opportunity and the market is quickly recognizing that.

REITs should have never dropped so much in the first place. Yes, they should have dropped, but no more than 10%-20%. We are undergoing a serious, but temporary crisis, with a clear end in sight.

As we demonstrate in a separate article, the REIT market was pricing significant and long-lasting pain in March and April. In reality, the outlook is not nearly as bleak and the sell-off appears to have been greatly exaggerated by an emotional marketplace.

Reason #3: Prices are Up, But They Remain Very Opportunistic

Yes, you may have missed the bottom in March, and prices are up a lot since then, but it's not too late to profit from the recovery.

There still exists some generational buying opportunities in the REIT market in the most beaten-down sectors. A great example in which we invested at High Yield Landlord is Simon Property Group (SPG): If you look at a multi-year chart, you will see that the recent rally is really just a little bump in its long-term recovery:

Data by YCharts

This is one of the highest-quality REITs in the world with an A-rated balance sheet and a portfolio of Class A retail properties. The company is suffering greatly right now, but it has the balance sheet to survive and well-located properties will thrive again. Yet, it's priced at a ~60% discount to NAV.

Similarly, Spirit Realty Capital (SRC) is up quite a bit over the past days. However, if you look at a multi-year chart, it's now trading at the same level as in 2017 when it collapsed following the bankruptcy of its biggest tenant:

Data by YCharts

Since then the company has spun off all its low-quality assets, greatly improved its balance sheet, and positioned itself for steady long-term growth. Buying in 2017 was a great investment, and buying it today is even better.

These are just two examples among 34 REITs that we are buying at High Yield Landlord. We have not stopped investing after the recent rally. Opportunities remain abundant in the most beaten down sectors.

Reason #4: The Economy Is Reopening

Valuations remain very opportunistic even as we are gradually returning to normal. I have spent my last two months in Europe, which is weeks ahead of the US.

Life here in Estonia feels near identical to before COVID-19. Restaurants, bars, malls, gyms are all open again. People are going out. They are social. And the lockdown did not change social habits.

In the US, some states are showing similar early results. As an example, in South Carolina, customer traffic is already back to 80% of pre COVID-19 levels at Tanger Outlet Centers (SKT) within weeks of reopening.

American Eagle (AEO), a major mall retailer, also noted that its stores are back at ~95% of business as of the same period a year ago. It confirms that shopping habits have not changed and there's significant pent-up demand.

As more states reopen their economies, rent collection rates will quickly recover closer to 100%, and sentiment of the marketplace will greatly benefit from it.

Reason #5: Yield Chasing will Soon Return

Panicked investors have forgotten about one important factor that's very bullish for REITs coming out of this crisis.

We are now in a 0% interest rate world. This benefits REITs on many levels.

First of all, it will allow REITs to refinance their debt at exceptionally low interest rates, which will boost cash flow.

Secondly, it will lead to further cap rate compression and higher NAVs once the panic is over.

And finally, we expect a surge in demand for REIT investments from yield-starved investors like never before.

Pre COVID-19, interest rates were at around 2% and investors required a 100-200 basis point spread for their REIT investments.

Right now, the interest rates are at 0%, and yet REIT dividend yields are higher than before COVID-19. Something will have to happen for the spread to get back to normal. We expect interest rates to remain very low for years to come, and REIT dividend yields to compress as investors rush back into the market.

This implies that there's significant upside potential from today’s prices.

Bottom Line

At High Yield Landlord, we won't stop buying. Even after the recent rally, opportunities remain abundant in the most-beaten down sectors of the REIT market.

We cannot time the market and REITs could very well drop back to March levels. However, we are very confident that our Top Picks will generate attractive returns in the long run, and that's what matters most.

We have repetitively shared the following chart over the past few months. It shows that REITs nearly tripled in just two years coming out of the 2008-2009 crisis:

Astute REIT investors made fortunes in 2008-2009 because they remained patient and disciplined with their investments.

Ignore short-term volatility and focus on the long-run upside potential.

Think like a landlord. Not like a trader. Patience is richly rewarded in real estate investing.

Analyst’s Disclosure: I am/we are long SRC; SPG. 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.