Investors typically own Real Estate Investment Trusts, or REITs, for their high dividend payouts. The average stock in the S&P 500 Index pays a dividend yield of less than 2%, but many REITs offer 3%+ yields. Not only that, but the best REITs can raise their dividend payouts each year.
Rather than simply buy REITs with the highest dividend yields, investors should focus on REITs that have sustainable dividends. There are REITs with significantly higher dividend yields than 3%, but stocks with sky-high dividend yields are often in questionable financial condition.
Finding REITs with the right mix of current yield and dividend growth can lead to strong returns over time.
Shopping For Growth and Dividends
First up is Federal Realty Investment Trust (FRT), which has a 3.1% dividend yield, which is significantly higher than the S&P 500 average. And, Federal Realty has raised its dividend each year for the past 51 consecutive years. This is the longest history of consecutive annual dividend increases of any REIT.
Its impressive history of dividend increases is the result of Federal Realty’s strong business model. The company primarily owns shopping centers, but it is also involved in redevelopment of multi-purpose properties including retail, apartments, and condominiums. When selecting properties for investment, Federal Realty focuses on transit-oriented suburban locations. These locations have high incomes and significatn barriers to entry. Federal Realty follows the “location, location, location” strategy when selecting real estate for investment, which fuels its competitive advantages.
Source: Investor Presentation, page 6
Federal Realty owns 105 properties, with over 2,600 residential units. It had an occupancy rate of 95% in the most recent quarter. For the period, Federal Realty’s Funds from Operation, or FFO, increased 4%, thanks to cash flow growth from existing properties as well as contributions from acquired properties. Higher occupancy and modest rent increases fueled Federal Realty’s growth for the period.
The company expects 2018 to be another successful year. Due to its strong second-quarter results, the company raised its forecast for the remainder of the year. Federal Realty expects FFO-per-share of $6.13 to $6.23 for 2018, which would represent 7%-8% growth this year. A successful quarter allowed the company to increase its dividend, marking the 51st consecutive year of steady increases.
Federal Realty has a strong balance sheet, which will help the company continue to grow, even if interest rates are on the rise. The company has an investment-grade credit rating of A- from Standard & Poor’s. Its financial health also secures the company’s dividend payments. Based on the company’s guidance for 2018, it will have a payout ratio below 70% for this year. The combination of dividends, future FFO growth, and valuation expansion could produce total returns of 10% or more each year.
Profit From Huge Technological Trends
The next REIT gives investors access to one of the biggest growth themes in the technology industry. Digital Realty Trust (DLR) owns more than 200 properties around the world, 152 of which are located in the United States. Its properties include data centers, which store and process information, and technology manufacturing sites. Digital Realty has a market capitalization of $25.5 billion and a 3.3% dividend yield.
Digital Realty is a major beneficiary of one of the most profound trends in the entire economy right now—the boom in data. As consumers utilize data more than ever, technology companies need the ability to store and process all this data. Digital Realty’s customer list includes several of the largest technology companies in the world.
Source: Investor Presentation, page 18
Positioning itself as a leader in one of the highest-growth areas of technology, has fueled impressive growth for Digital Realty over the past several years. For example, Digital Realty has grown its core FFO by 13% per year since 2005. Acquisitions have played a major role in the company’s growth. For example, last year Digital Realty completed its acquisition of DuPont Fabros Technology, to expand its industry presence even further.
Digital Realty reported strong second-quarter results. Revenue grew 33.4% to $754.9 million, the second quarter in a row with 30%+ sales growth. FFO increased 7.8% from the same quarter last year. Occupancy was approximately 90% in the most recent quarter, and the company expects 7%-8% growth for 2018.
This growth allowed Digital Realty to increase its dividend for 13 years in a row, and the company provides high dividend growth, especially for a REIT. The most recent dividend increase was an 8.6% raise. Combined with a 3.3% current yield, Digital Realty is an attractive stock for yield as well as dividend growth.
“The Monthly Dividend Company”
Lastly, Realty Income (O) is a unique REIT. Not only does the stock have a high dividend yield of 4.5%, but it also pays its dividend each month, rather than each quarter like the vast majority of REITs. Realty Income has paid 577 monthly dividends in a row, going back 48 years. It should come as no surprise that the company has trademarked itself as the “The Monthly Dividend Company”. Realty Income has increased its dividend 97 times since its initial public offering in 1994.
Source: Investor Presentation, page 11
Realty Income owns over 5,400 properties in the commercial real estate industry. Its retail tenants include dollar stores, pharmacies, movie theatres, and fitness clubs. It has 257 commercial tenants, spanning 48 industries. Top tenants include Walgreens, FedEx, Dollar General, LA Fitness, 7-Eleven, Dollar Tree, and Walmart. These are all industry-leading companies with strong business models. This gives Realty Income a high occupancy rate and consistent cash flow each year.
Realty Income has a strong portfolio, with high occupancy and steady cash flow growth. In the 2018 second quarter, adjusted FFO increased 5.3% to $0.80 per share. Revenue increased 9.6% in the second quarter, and rose 8.2% in the first half of the year. This is a high rate of revenue growth for a REIT, and was attributable to property acquisitions and a 1% increase in rents.
Future growth will be fueled by property acquisition and development of existing properties. Realty Income invested $347 million in 190 new properties and properties under development last quarter, and the company expects to invest $1.75 billion in 2018.
For 2018, Realty Income management expects adjusted FFO of $3.16 to $3.21 per share, which would represent 3% to 5% growth at the midpoint of guidance. At the current valuation, Realty Income stock trades for a price-to-FFO ratio of approximately 18 using 2018 AFFO guidance. The stock seems to be fairly valued but could generate strong returns through FFO growth and dividends. Assuming 5% annual FFO growth, in addition to the 4.8% dividend yield, Realty Income could generate total returns of nearly 10% per year.