Despite the recent dips in the class, real estate investment trusts still are attracting plenty of investor interest as the combination of high dividends and capital gains continue to rack up pretty impressive returns.
Case in point: The broad FTSE NAREIT Composite is up more than 75% over the past five years, as of the end of August.
However, typically when you think of REITs, you think of the two main varieties: equity REITs and mortgage REITs (typically just called mREITs). Equity REITs are the kind that own physical property — shopping malls, office buildings, apartments. Mortgage REITs, on the other hand, either make loans or invest in various mortgage-back securities and bonds, tied to either residential or commercial properties.
Both are very different animals. Both come with their own unique pros and cons.
However, many investors overlook a few REITs that actually blend the attributes of both — they own buildings and make loans. And these “hybrid REITs” could be the best bargains in the space.
That’s because they are difficult to analyze. Many equity REIT investors view them as too risky, while many mREIT specialist view them as too conservative. Meanwhile, they aren’t included in many indices for either type.
Their mistake. Our opportunity. Here are five hybrid REITs to buy.
Hybrid REITs to Buy Today: NorthStar Realty Finance (NRF)
NRF Dividend Yield: 11.5%
Just before the Great Recession, NorthStar Realty Finance (NRF) was strictly a mortgage-style REIT, owning a portfolio of CDOs, real estate debt and other loans.
Then the bottom of the commercial real state market fell out.
Thanks to prudent underwriting, Northstar survived, and since that time, NRF has transformed into a hybrid. That meant adding a ton of physical buildings and investing in various partnerships/comingled funds that hold real estate assets. As of the end of the first quarter, NorthStar had a real estate portfolio worth around $14.7 billion.
Meanwhile, NorthStar’s former bread ‘n’ butter is still alive and kicking. NorthStar continues to be active in the lending space and offers first mortgage loans and mezzanine debt, and it also invests in other mortgage-backed securities.
The beauty is that the REIT calls itself a “balance sheet” lender and will typically hold a loan through its entire life cycle. That means NRF focuses on credit quality, not just returns.
The combination of steady rent checks from its physical properties plus the extra “oomph” of mortgage lending helps keep the cash flows robust at NRF. For the latest reported quarter, NorthStar produced 45 cents per share in cash flows, powering a robust 40-cent dividend that yields in the double digits.
Hybrid REITs to Buy Today: Ashford Hospitality Trust (AHT)
AHT Dividend Yield: 6.6%
Like NorthStar, Ashford Hospitality Trust (AHT) was primarily a lender. In this case, AHT specialized in lending to various hoteliers and resort builders. As part of one of the hardest-hit subsectors of the real estate market, Ashford (and its investors) took it on the chin.
In fact, in 2008, AHT was forced to suspend its dividend to minimum requirements through 2009.
However, since the Great Recession, Ashford has moved into owning more properties directly. Today, the REIT’s portfolio of owned hotels consists of 116 properties with more than 25,000 rooms. The vast bulk of these are upper-tier brands catering to business travelers and recession-resistant consumers. That creates some enviable RevPAR metrics when comparing AHT to its peers. (RevPAR is a “rent” metric when evaluating hotel rooms and the amount income each room is generating.)
And while owning hotels is AHT’s primary bailiwick, Ashford will still conduct other hotel-related investments and lending, including mezzanine financing, first mortgages and sale leaseback transactions. These opportunistic transactions (as well as recent noncore asset sales) result in boosts to the firm’s cash flows and dividends.
So much so that AHT has declared extra special dividends each year over the last three years.
Hybrid REITs to Buy Today: W. P. Carey (WPC)
WPC Dividend Yield: 6.5%
W. P. Carey (WPC) is synonymous with commercial real estate. Founded in the 1970s, WPC offers a full range of real estate opportunities, including owning physical buildings and providing capital to other builders and owners of real estate to offering property managing services and even running investment portfolios and non-traded REITs for private investors.
It’s basically all that a hybrid REIT can be.
Driving that strength is the firm’s portfolio of 856 different net-leased buildings across the globe. The term “net leased” is a gold mine for REITs and real estate companies. Basically, the firms that rent WPC’s buildings are required to pay some (or all) taxes, maintenance and other costs associated with the property. That means that W.P. Carey can realize bigger margins and cash flows from its holdings versus non net-leased rivals.
The REIT’s commitment to growing dividends is strong, too. WPC recently upped its payout to 95.5 cents per share, continuing a nice streak of dividend growth.
Hybrid REITs to Buy Today: Two Harbors Investment (TWO)
TWO Dividend Yield: 11%
Unlike the bulk of the REITs on this list, where lending takes a backseat to owning physical properties, the opposite is true with Two Harbors Investment (TWO). TWO is still very much a mortgage REIT … but it’s one of the more conservative mREITs, and its property portfolio plays into that.
To start with, TWO primarily invests in residential mortgage-backed securities that for the most part are agency-sponsored (read: backed by the federal government/Fannie Mae/Freddie Mac). These are generally long-life bonds that provide steady cash flows to Two Harbors’ bottom line.
Also adding to this conservatism is the REIT’s recent foray into commercial real estate, which includes owning properties. This helps balance out the firm’s spicier non-agency-backed securities, jumbo loans and nonconforming residential mortgage loans — which come with higher risks, but higher returns as well.
All in all, TWO really is becoming a world-class hybrid REIT and shows how a flexible business model can work for investors.
Hybrid REITs to Buy Today: RAIT Financial Trust (RAS)
RAIT Financial Trust: 13.1%
Hybrid REIT RAIT Financial Trust (RAS) is a quadruple threat. The firm is a lender of commercial mortgages, bridge and mezzanine loans; owner of more than $1.5 billion of commercial real estate properties; an external property manager; and a third-party asset manager.
RAIT has traveled an arduous road since the great recession. RAIT’s lending portfolio got into trouble during the worst of the credit crisis. A combination of too much debt and a collapse in the commercial real estate market left the firm vulnerable. That caused RAS shares to drop 97% from their pre-recession peaks and for the firm suspend its dividend for two years.
However, things are looking up for the REIT. RAS has expanded into owning actual properties and the other businesses. Meanwhile, tighter lending standards have bolstered the firm’s lending portfolio. All of these things have helped RAIT regain some of its mojo. Cash flows have returned, and the latest quarter’s results more than covered its dividend.
If only RAS shares enjoyed the same amount of success its portfolio has. Despite a strong couple of years between 2012-13, RAS trades near where it did during the Great Recession.
However, if you believe in RAIT’s portfolio strength, patient investors are being well rewarded with a thick 13% dividend yield.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.