- Most REITs have strongly recovered over the past month.
- Investors need to become more creative to find bargains.
- We highlight two REITs that remain deeply undervalued and offer up to 100% upside potential.
- 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 a recent article, I explain that our REIT Portfolio has now fully recovered and returned to its multi-year streak of outperformance.
- 76.01% portfolio total return vs. 10.18% benchmark total return
- 65.83% outperformance of our strategy
For most of 2020, you could have invested in almost any REIT and you would have earned great returns in the following months.
That's not the case today anymore.
Most REITs are now priced at much closer to fair value and investors need to become more creative to find the last remaining opportunities.
At High Yield Landlord, we currently find the best bargains in three distinct categories:
- Special situations: These are REITs that are undergoing significant near-term issues. The equity is temporarily discounted to reflect the high uncertainty, but substantial value can be unlocked if they can fix things and turn around.
- Foreign REITs: The US REIT (VNQ) market is crowded and popular. However, many foreign REIT (VNQI) markets are still young and emerging. Because of that, many foreign REITs fail to attract investor's interest despite enjoying strong fundamentals.
- REIT-like real estate operating companies: These are companies that resemble REITs but aren't officially structured as REITs. These companies are excluded from REIT ETFs and, therefore, their performance is often detached from the REIT market.
In today's article, we will highlight two such opportunities that we think remain deeply discounted even after the recent recovery.
Top Pick #1: Uniti Group (UNIT)
Uniti Group (UNIT) is a REIT that owns a vast network of fiber infrastructure:
Earlier this month, we published our latest research on UNIT and concluded that it's one of the most undervalued REITs in today's market.
It trades as if it was a "value REIT," but in reality, it's positioned for rapid growth because it has the opportunity to:
- (1) Refinance its debt at much lower rates
- (2) Lease-up its under-utilized assets
All in all, we estimate that UNIT has the potential to double its FFO and dividend per share over the coming years:
Source: Author's calculations
Even then, the market is still sleeping on it because until recently UNIT was still in a risky situation with its biggest tenant going through bankruptcy proceedings. The whole drama led to a lot of uncertainty, a lease renegotiation, higher interest rates, and declining cash flow.
But now this is mostly behind and from here on UNIT is changing for the better, and the market still hasn't fully recognized that.
Some early investors have already noticed this and caused the share price to double, but even now, it still trades at just 7x FFO, which is very low for a REIT with such rapid growth prospects.
We expect both, the FFO per share and the dividend per share, to increase materially over the coming years, and as this happens, we believe that the market will reprice UNIT at a much higher FFO multiple.
The higher multiple will then allow UNIT to raise capital to accelerate its diversification, which will ultimately lead to an even greater multiple.
Generally, REITs that grow at this pace trade at closer to 25-30x FFO, so there's well over 100% upside potential; and while you wait, you will earn a 5% dividend yield that is set for rapid growth.
Top Pick #2: DIC Asset (OTC:DDCCF)
DIC Asset is a German REIT-like corporation that owns a portfolio of office properties but also operates an asset management business that generates fee income.
DIC earned us ~80% in 2019, but then as the COVID crisis came, its valuation crashed back down.
The market fears the office sector and DIC was lumped in with all the other office REITs:
However, what the market appears to have missed is that DIC's asset management business is booming right now.
Yes, its office properties are taking a small hit in the short run, but that's not what investors should focus on.
The real story here is the rapid growth in its assets under management. Last year alone, its external funds under management grew by another 45% in 2020:
That's not all. Just recently, the management guided to nearly double its external funds under management in the coming 2-3 years.
That means higher fees, higher cash flow, and higher dividends for shareholders.
That's how DIC was able to grow its dividend at a 15% compound annual growth rate over the past four years:
These significant achievements have been mostly ignored by the market.
We believe that DIC's value grew significantly in 2020, but its share price is still below its pre-crisis level.
As a result, it's now significantly undervalued, trading at a ~40% discount to net asset value and just 12x cash flow. Typically, REITs that grow at this pace trade at large premiums to NAV and over 20x cash flow.
We estimate DIC's fair value at around double its current share price, which means that the company has up to 100% upside potential. While you wait, you earn a rapidly-growing and safely-covered 5% dividend yield.
In today's market, it's not enough to look at popular large-cap REITs to find bargains. Most of them have already recovered and trade now at near fair value.
Investors need to become more selective and creative to find the last remaining opportunities. As an example, we invest on average in only one out of 10 analyzed opportunities:
UNIT and DIC Asset are two great examples that remain deeply undervalued. We have identified ~20 similar opportunities and that's where most of our capital is going at the moment.
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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 UNIT, DIC. 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.