My Oh My, 2 Strong Buys

Summary

• I want to make sure the REITs I recommend are going to net me more than dividends.
• I want stock price appreciation too.
• It’s that combination that make these investment vehicles as powerful as they are.
• Knowing that, let’s look at two that are still trading at worthwhile entry points.
• Looking for more investing ideas like this one? Get them exclusively at iREIT on Alpha. Learn More »

Photo by JuSun/iStock via Getty Images

As I’m writing this on Friday morning, the markets are down a bit.

To be precise, the S&P 500 has lost 17.45 points, or 0.41%. The Dow is down 142.84 points, or 0.42%. And the Nasdaq is faring the best. In fact, it might end the day up considering how its percentage decline keeps dropping even as I watch it.

But here’s the thing: It’s healthy to see corrections. If the markets were going up, up, and only up, we should be worried.

Oh.

Wait…

Because, of course, that’s what they have been doing overall. We get these mini down days occasionally. But the upward trend is undeniable.

The U.S. stock market as a whole has hit new record after new record after new record this year. On Dec. 31, 2020, TheStreet published how:

“The Dow Jones Industrial Average and the S&P 500 posted record closes on Thursday, the last trading day of 2020, as a volatile year brutally disrupted by the coronavirus pandemic came to a close.

“The Dow finished up 196 points, or 0.65%, to 30,606.48, while the S&P 500 was up 0.64% to 3,756.07. And the Nasdaq ticked up 0.14% to 12,888.28.”

Keep those numbers in mind. We’re going to come back to them in a moment, right after this TheStreet addition:

“For the year, the Dow Jones Industrial Average closed up 7.2%... The S&P 500 rose 16.3%... and the Nasdaq Composite advanced 43.6%...”

Again, that’s all in a “brutally disrupted” economy.

Take a minute for that to sink in.

These Markets Are Intense!

Today, to close off the month of April, the S&P 500 is trading at 4,195.07, the Dow is 33,905.31, and the Nasdaq has climbed to 14,078.

Let’s put those figures side to side:

Source: Wide Moat Research

Those are some significant jumps, especially in a mere matter of months.

I’ve written about the very high possibility we’re in a bubble before. Honestly, I think we’ve been in one for a while now.

But that assessment doesn’t mean we’re in imminent danger of it bursting. This momentum could go on for quite a while from here.

It shouldn’t affect us long-term one way or the other here at iREIT on Alpha. We don’t believe in gambling, following the crowd, or buying up even the best of companies above their fair-value prices.

That’s how, come hell or high water, we do just fine. More than just fine, in fact.

Our portfolios have phenomenal historical track records.

Short term though? Yeah. The stock market’s current greedy outlook is taking its toll on us in regard to finding new positions.

There’s just less and less we’re willing to buy at current prices.

That’s especially true in this slew of earnings reports we’re in the middle of. Most real estate investment trusts (REITs) are showing a lot of promise at worst for Q1-21.

As I wrote in Friday’s Another Day in REIT Paradise blog, “Some Serious “Wows! in Realty Income’s Merger News”:

“Perhaps that’s because the U.S. economy grew 6.4% - faster than expected - in January through March after growing at a 4.3% clip to finish out 2020.”

Perhaps indeed. That’s certainly a possibility.

What’s an absolute fact, however, is that I’m just not seeing many strong-buy stocks right now to recommend. Not in this overvalued environment.

But There’s Still Room to Grow

Like I said, I’m not seeing many strong-buy stocks right now to recommend. But that doesn’t mean I don’t see any at all.

To quote my colleague Dividend Sensei:

“Even with the S&P 500 36% historically overvalued, and many of the world’s highest-quality blue-chips dangerously overpriced ([dividend] aristocrats are 23% overvalued as a group), wonderful opportunities for safe high-yield and market- and aristocrat-crushing long-term returns still exist.”

He wrote that about Altria (MO) on April 22. But the larger principle he espoused there is always true – as he would be the first to say and I would be the first to agree.

It’s only a matter of having eyes to see them - after, admittedly, spending the time to search them out.

To quote Dividend Sensei again:

“To value a company, you can build a complex discount cash flow model in which your assumptions can drive a very wide range of estimates. Or you can take the easy/smart approach and just ask Mr. Market.

“As Ben Graham famously said, in the long term, the market is a weighing machine that almost always correctly ‘weighs the substance of a company.’

“That means safety, quality, risk profile, management skill, growth potential: the good, bad, and ugly about any company are priced into historical market-determined fair-value multiples.”

That’s why I’m such a stickler about pointing out past and present FFO or AFFO multiples. I want to make sure the REITs I recommend are going to net me more than dividends.

I want stock price appreciation too. It’s that combination that make these investment vehicles as powerful as they are.

Knowing that, let’s look at two that are still trading at worthwhile entry points.

My Oh My, 2 Strong Buys

Postal Realty (PSTL) is not a traditional free-standing net lease REIT like Realty Income (O) and Store Capital (STOR).

Instead the company is a pure-play landlord to properties leased to the US Postal Service, an independent government agency and an essential service with no closures due to the COVID-19 pandemic.

This means that the leases are government backed and the company has 100% rent collection with a historical retention rate of 98%. The portfolio consists of 270 properties with 871,843 interior square feet.

As e-commerce has grown, the USPS’s shipping and package services have proven vital to “last mile” deliveries and as a result the USPS has experienced compound annual revenue growth of 11.9% since FY 2012.

PSTL shares are trading at $19.38 with a P/AFFO multiple of 18.8x. In contrast, Realty Income – who just announced the merger with Vereit (VER) – is trading at 20.x.

We just upgraded our price target for Realty Income and we believe that PSTL could move closer to 19.8x over the next few quarters. PSTL just declared a $0.22/share quarterly dividend, 1.1% increase from prior dividend of $0.2175 and analysts are forecasting 10% growth in 2021 and 2022.

This translates into a Strong Buy, in which we believe that shares in PSTL could return at least 25% in the next 12 months.

Source: FAST Graphs

City Office (CIO) is another uniquely-positioned REIT that we believe could generate outside results in the months ahead. As I explained to members of iREIT on Alpha,

“Within a universe of 14 office REITs, every one projects positive 2022 funds from operations (FFO) per share expectations. But there’s only one that I rate as a Strong Buy with an annual return potential north of 25%.”

City Office might be considered small ($457 million market cap) in comparison to other REITs in our coverage spectrum, but this mighty little REIT packs a powerful punch and offers the purest way to profit from the ongoing migration patterns across the U.S.

The company specializes in Class A and Class B buildings and owns 65 buildings with an emphasis largely on the growing population centers of Western and Southern states.

City Office has grown considerably over the last seven years. From 2014 to 2019, it increased its investment portfolio by roughly fourfold to $1.5 billion. The company is a dedicated owner of Class A and B office centers, with a significant presence in Phoenix, Denver, Tampa and San Diego.

CIO shares are trading at $10.95 with a P/AFFO multiple of 15.3x. Keep in mind the company did adjust the dividend during the pandemic in 2020, but the good news is that the dividend is well-covered, based on the 2021 ratio of 74%.

This assumes that the company generates growth of 21% in 2021. More compelling though is the 2022 estimate of 9%, which suggests that CIO is on track for a dividend boost “sooner than later.”

Our Strong Buy recommendation, like PSTL, is highlighted by the low multiple and strong growth profile, in which we believe that shares could return 25% in twelve months’ time.

Source: FAST Graphs

Closing Thoughts

As Benjamin Graham explains,

“you must thoroughly analyze a company, and the soundness of its underlying businesses, before you buy its stock; you must deliberately protect yourself against serious losses; you must aspire to “adequate,” not extraordinary, performance.”

One of the best ways to "protect yourself against serious losses" is to insist on a margin of safety. Once again Graham provides valuable insight,

“If you are shopping for common stocks, choose them the way you would buy groceries, not the way you would buy perfume."

Have a great weekend and thanks for reading!

Analyst’s Disclosure: I am/we are long CIO, PSTL, O, WPC. 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.

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.