Real estate investment trusts (REITs) are interesting tools for long-term investors. They allow individuals to get involved in the real estate sector with more of an ownership stake than just holding common stock in a company. REITs are set up so that investors are essentially business partners. And given that relationship, REITs by law are required to pay out 90% of their income to shareholders.
This can be a very nice investment that in good times can see the stock value and their above-average dividends grow. The are relatively safe investments and are usually very good in a time of expanding economic growth.
But as we’ve seen, this recovery is unique from others in the past. Not only is the economy recovering, it’s transitioning. Brick-and-mortar stores are finding it harder to make money; shopping malls are losing tenants to online; and it’s the same in the travel business, as price shopping is popular online and deals are more important that hotel loyalty programs.
This is having a rippling effect in the REIT sectors servicing these businesses. Which is why it’s crucial you know about these seven REITS that you should absolutely steer clear from in the near term.
REITs to Avoid: Cedar Realty (CDR)
Cedar Realty Trust Inc (NYSE:CDR) is shopping center REIT that operates in the great Orwellian city of the future, Boswash — the Boston to Washington, DC corridor. You would figure this would be a great place to have a business — low unemployment, plenty of high net worth individuals and dense populations.
Unfortunately, this isn’t the case any longer. And its troubles are reflected in CDR’s fourth-quarter numbers, which were released yesterday.
Preferred stock dividends were half of what they were in the same quarter a year ago. Revenue was off and funds from operations — the true barometer of REIT performance — were down nearly 20% from year-ago levels. That’s not an encouraging trend.
What’s more, the stock is off 15% year-to-date and is still only delivering a 3.6% dividend, which you can get in many stocks that have much better prospects.
REITs to Avoid: Chatham (CLDT)
Chatham Lodging Trust (NYSE:CLDT) is in the mid-market extended hotel REIT business, with about 133 hotels around the country. In the past, this was a good business because property was cheap and there was a consolidation of properties. Also, developers could build cheaply and then the REIT could brand the hotel for any of the many lodging chains that were looking to expand their reach on the cheap.
But now, online travel agents (OTAs) have upped their presence and are taking a chunk out of this sector. When customers go to find a place to stay online, they’re usually given several offers for the same room in the same hotel. And given the less than vibrant state of most businesses and individuals, price matters.
For the hotels, that means more competition and lower margins. And now that the building boom has slowed, it means these REITs are carrying some big debt, without the growth that has sustained them and their prices.
CLDT is a poster child of this squeeze. It reported fourth-quarter earnings last week — net income was off more than 33%. Revenue per available room was down. And margins were down. FFO was slightly up.
Barely treading water year to date, even CLDT’s 6.5% dividend isn’t worth the risk here.
REITs to Avoid: Pebblebrook Hotel Trust (PEB)
Pebblebrook Hotel Trust (NYSE:PEB) is in the high-end hotel market in key cities across the country — from Boston to Hollywood. The problem is, it’s a much tougher business than it was. And when the growth stops, the revenue from existing properties needs to grow, not contract. And that isn’t happening in this sector.
There are plenty of wealthy people that are fairly price tolerant, but there are far fewer than there were 5 years ago. And OTRs make price points – and margins for for the hotels – much less flexible. People are looking for deals, and if you don’t have one, they can go somewhere else. Also, businesses are using more technology solutions like video conference calls, etc, so they don’t have to turn their workers into road warriors.
This was most recently reflected in PEB’s most recent earnings report this week. Q4 FFO was off almost 10%. Revenue per average room was flat as were margins compared to the same quarter last year. Even the CEO warned for this year. The 5.3% dividend isn’t worth the trouble.
REITs to Avoid: Investors Real Estate Trust (IRET)
Investors Real Estate Trust (NYSE:IRET) operates multi-family as well as industrial and healthcare properties in the Midwest, specifically, Iowa, Kansas, Minnesota, Montana, Nebraska, North Dakota and South Dakota.
Much of its territory has been hurt by the drop in energy production in many of these areas. Also, it’s important to understand that just like the rest of the economy, some of the jobs in the energy patch that have gone, won’t come back. Many companies are replacing workers with machines that can do the job more safely and cheaper.
That means, any of the vacancies that occurred when the shale boom went bust, won’t likely be filled again. What’s more, its healthcare properties are now in limbo with the potential replace and/or repeal of the Affordable Care Act (Obamacare).
Just this week Zack’s came out with a ‘Sell’ rating on the stock and all but one analyst that follows the stock has it as a “hold” or a “sell.” Most give the stock a price target exactly where it is now, which is not good.
REITs to Avoid: Kimco (KIM)
Kimco Realty Corp (NYSE:KIM) is the top dog in open-air shopping malls anchored by big retailers. And this has served KIM well for many years — until the internet started to disrupt things.
More and more shopping malls are finding it tough to fill their spots with tenants after the big stores move in. Part of it is the fact that smaller stores don’t have the same access to capital to get a foothold in a shopping center. Another part is, there is such an explosion of shopping malls, there are more choices for potential tenants.
But the big thing factor that has raised its head is the fact that interest rates are going up in the U.S. For REITs, that means the property they buy and all the costs associated with building go up. And because there is a large supply of retail space already, it means it’s going to be harder to raise prices on the rents to keep pace. And that means lower margins and funds from operations.
The blessing with KIM in a good market is its curse in a slowing one — its size. Because it’s so big, it will be challenged more significantly that smaller, more nimble REITs, even though all of them in this sector are suffering.
This is also likely why Goldman Sachs issue a “sell” rating on KIM way back in late November.
REITs to Avoid: Life Storage (LSI)
Life Storage Inc (NYSE:LSI) is one of the “Big Four” public storage REITs. During the years after the financial crisis, storage REITs were all the rage. People were moving to look for work or were being relocated and they needed places to put their things until they got up on their feet in their new surroundings.
There were the salad days for this sector. But times have changed. People aren’t moving as much as they were. Many have downsized by this point, emptying their units or downgrading the size of their units.
The industry is still in consolidation mode at the top, so many companies are playing a shell game with investors, showing revenue growth because they’re buying up existing properties of smaller players that can’t sustain the downturn but their costs are rising and their margins are flat or dropping.
The trend is not their friend. LSI reported its Q4 and full year results last week and they show that this is the trend it’s in. While total revenue was up 35% for the year, operating costs were up 40%. That is not a sustainable situation. And LSI carries a P/E of 43, which makes it more than fully valued at this point.
REITs to Avoid: Kite Realty (KRG)
Kite Realty Group Trust (NYSE:KRG) has about 120 community and neighborhood shopping centers around the U.S. While KRG is certainly a quality company that has built a smart portfolio of tenants, the problem is, this is a broadly overbought sector that flowered when rates were low. Now that interest rates are on the rise, it’s a whole new ball game.
The blue chips in this sector are under significant pressure because fund managers piled into the big names, raising the boats of smaller players like KRG as well. But KRG hasn’t basked in that glow too much — it’s off 15% in the past 12 months.
And now that the sector is on the back side of good times, it will not be spared the correction that the big names have brought on this sector.
Also, when you get into its recently reported numbers, there’s little to inspire. Net income for the quarter was off nearly 40%; for the year it was came in at $1.2 million compared to $15.4 million in the previous year. Funds from operations were also off significantly for the quarter and the year.
While some may see a bargain, I see trouble.
Louis Navellier is a renowned growth investor. He is the editor of five investing newsletters: Blue Chip Growth, Emerging Growth, Ultimate Growth, Family Trust and Platinum Growth. His most popular service, Blue Chip Growth, has a track record of beating the market 3:1 over the last 14 years. He uses a combination of quantitative and fundamental analysis to identify market-beating stocks. Mr. Navellier has made his proven formula accessible to investors via his free, online stock rating tool, PortfolioGrader.com. Louis Navellier may hold some of the aforementioned securities in one or more of his newsletters.