With volatility starting to return to the markets and some analysts pointing to the fact that things are beginning to look a bit top heavy, investors may want to dial back their risk profiles and focus on more boring investments.
And nothing can be as boring as watching trees grow.
Timber as an asset class has managed to produce stellar long-term returns … all while laughing in the face of volatility. Add in the fact that many timber companies are structured as high-dividend-paying real estate investment trusts (REITs) and you have a recipe for success in the months and years ahead.
Timber REITs: Boring, But Reliable
As an investment, timber is as boring as it gets. You’re literally watching a tree grow. But that sleepy demeanor is exactly how the asset class benefits a portfolio. When lumber prices are low, timber companies can withhold harvesting logs and let the trees grow. When prices rise, they not only profit on the higher log price, but they make more money per tree since it is now larger. On average, a forest grows by about 7% each year.
That steady nature has made timberland a great investment over the long haul.
A dollar invested in the National Council of Real Estate Investment Fiduciaries (NCREIF) Timberland Index — the main index of timberland prices — back in 1987 would have turned into more than $25 today. This compares to just $15 for the S&P 500 and about $7 for other forms of commercial real estate.
Meanwhile, that hefty market-beating return comes with a host of other benefits — namely inflation protection and lowered volatility.
On the inflation front, timber has managed to outperform in all manners of inflationary environments. In fact, during the period of high inflation in the U.S. (1973 to 1981) when the CPI averaged 8.5%, the Southern Timberland index — the precursor to the NCREIF — produced a staggering 17.1% return. All in all, timber is an asset that will preserve and grow capital in the face of rising consumer prices.
And as far as volatility is concerned, boring timber wins again. Its Sharpe ratio beats the S&P 500 by a wide margin (0.92 vs .36). That means timber provides better risk-adjusted performance than the stock benchmark.
But here’s where it gets interesting for investors: Timber can also be a great source of dividends and income.
Traditionally, pension funds, private equity and endowments have all invested in timberland via timber management organizations (TMOs). Regular investors have generally been shut out of these investments, as initial investments can run into the millions of dollars.
However, several firms have recently organized as real estate investment trusts (REITs). REITs — in exchange for certain tax advantages — are required to kick out 90% of their net income as dividends back to shareholders. The average timber REIT pays around 4% in dividends.
Many of the major timber REITs have recently begun spinning off or selling their non-timberland and wood products assets. Those moves have made the REITs purely focused on the operation of managing timberlands. They’ve basically become a poor man’s TMO — accessible by buying a single share of stock.
Let’s take a look at three of the best timber REITs to buy.
Timber REITs to Buy: Rayonier (RYN)
Timber REIT Rayonier (RYN) was the latest firm to remove its side businesses, with the firm recently spinning off its specialty fiber division as Rayonier Advanced Materials (RYNM). That leaves RYN with the sole duty of owning roughly 2.6 million acres of forests in the United States and New Zealand.
However, since the spinoff, management has been on the hunt to expand that acreage further.
That expansion should help with the firm’s cash flows and earnings after the split. And RYN could use the help. When the company reported earnings back in June, it missed analyst consensus estimates by a whopping 41 cents per share. However, the real driver for the timber REIT — free cash flows — remain robust.
RYN stock yields a juicy 3.9% and trades for a P/E of 20.
Timber REITs to Buy: Weyerhaeuser (WY)
Like RYN, Weyerhaeuser (WY) has recently been ridding itself of non-timberland related businesses. In the case of WY, that was its WRECO homebuilding subsidiary. Aside from its wood products division, WY is now the second-largest owner of timberlands in the U.S.
That status has made the firm an earnings and dividends machine.
WY recently upped its dividend by a whopping 32% and announced a new $700 million share buyback program. And since the start of 2010, WY has increased its dividend from 5 cents per share to 29 cents — a whopping 480% increase in just five years. Even better: Weyerhaeuser is currently only paying out around 75% of its available funds for distribution. That means there is still plenty of room and growth for the timber REIT’s 3.6% dividend yield.
Meanwhile, shares of WY are cheap at a forward P/E of 19.5.
Timber REITs to Buy: Potlatch (PCH)
Potlatch (PCH) was one of the first timber REITs to really get focused on the idea of being a “poor man’s TMO.” Back in 2008, it spun off its pulp and paper division. Today, it owns roughly 1.4 million acres of timberland as well as sells various wood building products.
Unfortunately, that wood products business became a headache during the recession. As the housing market suffered, losses at the division mounted. causing PCH to cut its dividend back in 2012. However, after several cost cutting initiatives, PCH is back in the black, and dividend growth has once resumed.
The rebounding homebuilding market will only serve to strengthen PCH’s cash flows and dividend further. The timber REIT currently yields 3.5% and retains its cheapness from its former dividend cutting days at a forward P/E of 17.
As of this writing, Aaron Levitt was long PCH, RYN & WY as well as timber REIT Plum Creek (PCL).