Dwindling Opportunities in Office REITs

  1. The majority of the REIT stock appreciation took place in the months of June and July.
  2. This then affected the office REITs, which saw an appreciation of 16% where 10% took place during those two months.
  3. Many office stocks, such as First Potomac and City Office have been clearly undervalued.
  4. First Potomac and City Office are small caps that have to prove that can deliver good results.

chart01It is fair to say, that the share price appreciation of most REITs is a very recent occurrence. This follows the macroeconomic scenario that was laid out by the Fed in May. Many investors have started to chase REITs, which has created a spurring of rapid stock appreciation across all REIT sectors. What we’ve seen in both June and July is an 11% rally in share prices, while the year to date return is 19%.

Office REITs, which up till now have been neglected by brighter sectors, like date centers, have felt the same effect. These Office REITs rose up to 16% this year, and 10% of that took place between June and July. This has resulted in opportunities in this sector to be harder to find.

There are very few REITs that have been clearly undervalued. First Potomac, which is focused on the Washington DC market, and City Office, which is concentrated on growth cities, have both lagged behind its peers in terms of the returns and have demonstrated lower multiples. While Office REITs trade an average of 25 times AFFO, these REITs are only traded around 15 times.

chart02The warning is that both small cap REITs should have to prove what they came for. First Potomac experienced a recent change in leadership and at the same time, their portfolio has been going through a radical makeover. City Office, on the other hand, has been a public company since 2014 and internalized its management last February.

To summarize, over the last couple months, there has been a dramatic dwindling in every sector. This decrease in number of undervalued stocks has even affected, what has come to be known as ‘neglected’ REIT sectors, such as the office sector.

Source: First Potomac Realty Trust(NYSE:FPO), City Office Reit, Inc.(NYSE:CIO), Fast Graphs

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, PEB.

Investors Sold Self Storage REITs in July

  1. This year, the self-storage REIT sector’s performance has been slightly negative.
  2. When REITs started to released their Q2 results, investors sold their positions in late July.
  3. In general, results have been in line with expectations.
  4. One possible explanation for the mini selloff are concerns over the valuation values, which have reached high levels, especially Extra Storage and Public Storage.

chart01If there’s a REIT sector that hasn’t managed to follow its peers in terms of performance this year, it’s the self-storage sector, which includes five companies, ranging from the small cap National Storage Affiliate (NSA) to the large cap Public Storage (PSA).

On average, their return has been slightly negative at -3%, as opposed to the average REIT return of 19%. While July was a good month, in general, for REITs, self-storage was left with a slightly bitter taste in their mouth. Average REIT return was 5%, whereas self-storage was -4%.

A mini selloff occurred when self-storage REITs started releasing their Q2 results in late July. Despite the good results, Extra Space (EXR) has an 8% drop after the release. Public Storage had the same results, though with just a 6% drop.

Fear of new supply might be a reason why investors are being spooked away. The management teams have flagged new supply, although this is limited to certain markets, such as Denver and Houston. On the west coast, supply appears to be constraint and the sector is thriving.

With that in mind, investors might be concerned about the valuation levels some of the REITs have reached, especially Public Storage and Extra Storage. As far as multiples go, both are trading above the sector average.

In summary, multiples have not come down enough to consider investing in the self-storage sector. This is especially true for Public Storage and Extra Space.

Source: Extra Space Storage Inc.(NYSE:EXR), Public Storage(NYSE:PSA)

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, and PEB.

A Way to Go About Hotel REITs

Summary

  1. Hotel REITs have been out of favor, but recent chase for yield has helped to propel share price performance.
  2. Several stocks that failed to approach their fair value present their own catalysts. FelCor Lodging Trust is a great example.
  3. FelCor management is actively engaged in selling non-core hotels and using the proceeds to repurchase stocks.
  4. Moreover, although being an activist target doesn’t necessarily lead to gains, the company has worked cooperatively with activists in an effort to improve governance.
  5. Finally, the company is actively looking to reduce its leverage level and improve its debt profile.
  6. June’s share dip was a great opportunity to buy, but new dip after softer Q2 results presents new opportunity.
Quick Profile (as of 29 July 2016)
Industry Fundamentals: Favorable, but potentially near or at peak

Hotel Portfolio: Luxury and upper upscale, balanced, diversified

Stock Volatility: High

Small Cap (Market Cap: $0.9 billion)

Dividend Yield 3.5% vs Hotel REITs 5.4%

AFFO Payout ratio: 19%

Upside: High (38% below 52-week high)

Risk: High

External catalyst: Fair

Internal catalyst: High (sale of five hotels, repurchase of stocks, decrease of leverage ratio, potential credit rating upgrade)

A Way to Go About Hotel REITs

That hotels, one of 2016’s trailing REIT performers, have been out of favor is not news. Investors have been cautious because many believe hotel REITs have either already reached or are currently reaching their peak in the real estate cycle. Nevertheless, recent chase for yield has helped to propel hotel REIT share price performance. Although share price performance was flat in the first half of the year, July demonstrated to be more promising.

Hotels overall lack a long lasting industry catalyst to convince investors. Although industry figures still demonstrate that supply has yet to surpass demand, supply has been on track to reach the historic growth rate of 2%. Also, supply has seen intensified construction in several hotel categories, especially upscale and upper midscale markets. In a highly competitive industry, this doesn’t come off very encouraging.

To top it off, economy has not helped to make the industry’s case. Rumors of recession have been on and off, the same way Fed’s Janet Yellen has demonstrated to be very sensitive to the swings of labor figures. In addition, a potential appreciation of U.S. dollar will scare international tourists away, especially to gateway locations such New York and Miami.

Weaker industry catalysts don’t imply that individual stocks cannot present their own internal catalysts. A way to go about this situation is to look for undervalued stocks (which is the large majority of hotel REITs) and find those that are creating events that could spur a share price performance. A promising hotel REIT that has failed to realize its value and fits the bill is FelCor Lodging Trust.

Among hotels, FelCor is the REIT with one of highest upsides. FelCor’s share price has been 37% below its 52 week high and 14% below its 2016 high. While hotel REIT shares are up by 9% this year, shares of FelCor are down by 6%. In June, its share dropped by 6%.

The management is focused on propping up shares. They put up for sale 5 of its 41 hotels and plan to use the proceeds to reduce debt, repurchase stocks and redevelop several hotels. Also, the sale of non-core assets will raise FelCor’s portfolio profile, improving hotel metrics, such as RevPAR, Hotel EBITDA per key, and hotel EBITDA margins. The company’s core assets have been in gateway urban markets and resort locations that can be more difficult to break into.

Maybe one of the reasons why the company has been flying under the radar is its debt profile. In April of 2015, Standard & Poor’s upgraded the company from B- to B, which is still two notches below investment grade.

The company is actively looking to reduce its leverage level and improve its debt profile. The company doesn’t have any major debt maturity in the next two years as interest expense has decreased over time and debt metrics have improved.

Diversified Portfolio Not Potentially Affected by Supply Growth

chart01FelCor owns luxury and upper upscale hotels in gateway cities and tourist locations. They own well rated hotels that are ranked very competitively to the hotels in the surroundings.

Gateway urban markets remain to generate a significant portion of revenues. Geographically, they have a balanced distribution of properties on both east and west coast, in cities such as Boston, Los Angeles and San Diego.

What is in the company’s favor is its diversified portfolio composed of suburban, airport, and resorts, which is not one of the subsectors potentially affected by supply growth.

Seasoned Leadership More in Touch with Shareholders

FelCor, although they encompass two entities, is a de facto internally managed REIT. The management is seasoned and composed of executives who worked for other companies in the industry. Key people in the senior team have been with the company for about ten years.

The board has accumulated an equivalent average tenure, although the company has taken recent measures to reduce the board term from 3 to 1 year. The desired effect is to reduce the average tenure and promote renewal that better reflects shareholders’ concerns. It is one of the actions to improve corporate governance.

Choppy Dividend Record, But Who Doesn’t?

chart02Although the company has been around since 1994, the company’s dividend record has been choppy. Notably, the REIT hasn’t distributed dividends for almost six years, between 2008 and 2014. The management interrupted dividends because they had predicted a sharp drop in FFO in the following years in function of the great recession, which actually forced the company into negative territory in 2010.

In January of 2014, the company resumed distributions, but management has clearly been cautious as they only distribute equivalent to 19% of the adjusted funds from operations. The company is concentrating its efforts on internal growth. For that reason, the dividend has been well covered, but yield is one of the lowest among hotel REITs.

The truth is that there’s nothing to be ashamed of this record. In fact, very few hotel REITs have dividend records that date back before the great recession in 2008. The sector has not produced a premier, long lasting dividend payer yet.

Activists Made Compelling Case

The company has been the target of activist Land and Buildings, which has almost doubled down on its position and now owns approximately 4% of the shares. Although being an activist target doesn’t necessarily lead to future gains, they did make the management improve its governance by including two independent directors. In the end, the company seems to be working cooperatively with the activist, something that is positive in itself.

In late January, Land and Buildings cited an upside of 60% to NAV and made a series of proposals to accomplish the target price. In February and March, FelCor shares were on a roll, rallying by more than 30%. However, weeks later, the stock lost steam and went back down.

Latest Results

chart03Following its Q2 announcement late July, the stock began trading with a significant drop. The management was treading lightly after seeing business travel getting soft in Q2. The weakening of corporate demand in transient travel forced the company to lower expectations for some of the metrics, including the full-year 2016 guidance for AFFO per share. The corporate transient segment accounts for 30% of overnight stays.

Despite the market’s negative reaction, the firm owns an overall portfolio that has the potential to deliver positive results. Also, the management has resources to partially mitigate the softness.

On Track for a Credit Rating Upgrade

chart04Highly levered, the company has been making a systematic push to reduce its debt level. By the time the company finalizes the planned sale of some hotels, the leverage ratio will be below the peer average. Moreover, the company has one of the best maturity profiles among hotel REITs and the majority of its debt is fixed rate interest (79%).

Following its corporate credit rating upgrade from B- to B by Standard&Poor’s April last year, the company improved its debt profile. Although it is two notches below becoming investment grade, the company managed to expand its borrowing capacity. Also, the company was able to replace its outstanding 6.75% senior secured notes due 2019 to 6.00% senior unsecured notes due 2025.

Valuation

The company is clearly undervalued. While hotels’ average multiple has been around 10 times AFFO, FelCor’s multiple is around 7 times.

Conclusion

If you buy FelCor, you’re buying it for long term appreciation, not for dividend.

In summary, with the recent dip, FelCor demonstrates to be a good opportunity, but I’d limit its exposure in the portfolio because FelCor performance has been conditioned to the successful hotel sales.

Source: FelCor Lodging Trust Incorporated (NYSE:FCH)

Written on 29 July 2016

Disclaimer: This is not a recommendation to buy or sell stocks. The highest-yield stocks are not necessarily the best portfolio investment choice. The purpose of this report — which is essentially a snapshot of information available on July 29, 2016 — is to reduce your stock analysis by enabling you to compare stock and sector performance. Please do your own due diligence before making any investment decision.

This report is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, PEB.

Why We Have Decided To Invest In This Hotel REIT

chart01Following its official Q2 announcement last week, Pebblebrook began trading with a significant 5% drop. Pebblebrook continues to tread lightly after seeing business travel getting soft in Q2. The weakening of corporate demand in transient and group travel forced Jon Bortz (Founder, Chairman, and CEO of Pebblebrook) to lower expectations for some of the hotel metrics.

The REIT reported that some industries have been sensitive to costs due to weaker corporate profits. For instance, energy and financial services have been more ‘thoughtful about travel’ and have been cutting back on travel. The drop in corporate earnings has forced management teams to become more conservative when it comes to helping their companies save capital. It is also vital to point out that current global events and a stronger U.S. dollar are making people leery about traveling. This has certainly affected the company’s results.

Despite the market’s negative reaction, the firm owns a portfolio that has the potential to deliver positive results over the next year. The customer base has a mixed profile and the west coast properties (especially Portland and Los Angeles) are performing very well at this time.

The company has also made an earnest effort at reuniting a strong series of internal catalysts of growth. They sold a land parcel and two hotels recently. They have also devoted a great deal of their time in renovating and repositioning a number of hotels. The sales of proceeds will be used to lower outstanding debt on a credit facility. The sales of proceeds may also be used to repurchase stocks and pay special dividends.

Pebblebrook’s 5% dip is not as big as their last major share price fall to $24 in June. The slight dip provides a buy opportunity that shrewd investors cannot afford to ignore. Last year, the company was trading above 20 times its AFFO. It is presently trading at 11 times its AFFO. This is not a solid guarantee that the price will increase, it just points out that investors have seen this before.

In short, one must be prudent when it comes to investing in REIT stocks. There’s much hype out there. Pebblebrook has exceptional management and an impressive portfolio. With this slight dip, we have decided to buy the stock. We didn’t want to miss this opportunity!

Source: Pebblebrook Hotel Trust(NYSE:PEB)

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, and PEB.

This is a REIT that Reached Multiple Above 30

chart01Terreno Realty is one of our favorite industrial REITs, which has hit greater and higher high after June’s REIT rally. The stocks that are a part of the industrial sector have advanced an average of 7% in July while also appreciating by more than 33% year to date. This is seen especially in Terreno, which has reached a multiple 37 times AFFO. This is one the highest, if not the highest multiple among the industrial REITs.

Despite Terreno’s minimalistic management reporting of results, we are able to pull up their 10-Q and July presentation. From this, we are able to see that both the REIT and the sector are still performing very well. In the Q2, the same store NOI grew by 3% on a GAAP basis and up to 5% on a cash basis. However, its funds from operations, which are equivalent to earnings for REITs, has decreased on absolute terms and on a share basis.

An increase in G&A expenses that are associated with long-term incentive plans explains a significant portion of the FFO drop. This company advocates for share award incentive for its executives. Over a pre-established performance measurement period, the total shareholder returns of the Company’s common stock are taken and compared to the total shareholder return of key indices. Which means that the June rally helped to boost their incentive compensation.

In summation, the new highs have had it almost impossible to consider this stock as a buying opportunity. But if you have some its shares already, it is a good idea to hold onto them, for a potential sell opportunity. You might consider cash in (like the management just did) if you think the Fed will negatively influence REITs this year. With the high institutional ownership of the stock, it is very unlikely that an investor will be able to make any sharp gains from any sharp dips. The most sensible action to take for this stock is to just sit back and monitor it.

Source: Terreno Realty Corp.(NYSE:TRNO), Fast Graphs

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, PEB.

Manufactured Home REITs Have Experienced Good Gains

chart01.pngUnder the perception that Janet Yellen will not raise interest rates for a while, many investors have been searching for yield. Popular REITs like net lease stocks appreciated, but we have started to take notice in interest on other REIT sectors. For instance, manufactured homes have experienced some good gains.

There are three stocks that make up the manufactured home REIT sector. These stocks had around a 10% return last June, which was more than the average REIT. Even the undervalued UMH, whose portfolio is mainly focused on fracking regions in Pennsylvania and Ohio, have also rallied by 13% in June. Not to mention, that they are now accumulating over 20% a year to date return. The stock is yielding almost 6% and its dividends have not been covered yet.

As a result, all three of these stocks seem to be fairly priced, and we are not currently seeing any upside right now. It is still possible that Yellen could lend a hand to REIT stocks again, but this is not something that I would consider an investment strategy. With her short history, that is mainly made up of flip-flopping, it is fair to say that the Fed’s opinions have been swinging to the moods of the world’s economy.

Equity LifeStyle Properties has already released Q2 results. They have shown that the market fundamentals are continuing to hold strong. For manufactured business, which includes the majority of revenues, occupancy has increased for the 27th consecutive quarter. Plus the monthly rent base is continuing to trend upwards. For their Recreational Vehicle business, the same-store NOI rose by 6%.

Both Sun Communities and UMH Properties will release their Q2 results this week. Sun Communities are coming from the major acquisition of Carefree Communities. This caused an increase in its number of communities by approximately 44%. This will be the first time we will review the consolidated results of such a large company.

To sum up, I would wait for the Sun Communities and UMH Properties Q2 results. However, this time around I am not hopeful that there will be a window of opportunity.

Source: Sun Communities Inc.(NYSE:SUI), Equity LifeStyle Properties, I(NYSE:ELS), UMH Properties Inc.(NYSE:UMH)

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, and PEB.

Yellow Flag on Hotel REITs

chart01

During the release of Q2 results last week, several lodging stocks relayed the weakening of corporate transient demand. This has led some management teams to be more cautious while several have decided to review their 2016 guidance figures. Hotel REITs are not saying how long this will take, but they have confirmed that the second half of the year will suffer from the lingering effect.

The main cause has been the macro environment. Many uncertainties have led many companies, regardless of their size, to spend less and also cut travel expenses. Plus, the geopolitical tensions and fears of terrorism have discouraged travelers. With domestic and global events such as Brexit, China economy, oil prices, and U.S. elections, companies are lacking a clear horizon.

Hilton Worldwide, which is planning to spin off to create ‘Park Hotels & Resorts REIT,’ has mentioned on their Q2 call that, because of corporate transient, they remain on the lower end of their guidance range. While the corporate transient segment is slowing down, the group business is still doing well.

FelCor Lodging Trust, which is significantly exposed to the business traveler customer base, has also reported they are expecting group business to remain solid. While the group business partially offsets the decline in business transient performance, they are still continuing to expect negative effects on hotel metrics.

The Dow Jones U.S. Hotel & Lodging index has dropped by 4% by Wednesday, in tandem with most hotel REITs, but it has quickly recovered. Regarding last week’s worst performers, FelCor went down by 8%, Pebblebrook fell by 5%, and Hersha dropped by 3%.

Although the softness was detected a couple of months ago, a stronger impact has recently thrown down a yellow flag on hotels, whose operational results have been doing well. While on the other hand, the softening has made a low to moderate impact on the results. Many management teams have reported that there are ways to mitigate the impact.

In conclusion, the softening is not all bad, but it still will require some monitoring.

Source: Dow Jones U.S. Hotel & Lodging (^DJUSHL), Hilton Worldwide Holdings Inc.(NYSE:HLT), FelCor Lodging Trust Incorporated (NYSE:FCH), Pebblebrook Hotel Trust(NYSE:PEB), Hersha Hospitality Trust(NYSE:HT)

Disclaimer: This is not a recommendation to buy or sell stocks. The highest-yield stocks are not necessarily the best portfolio investment choice. The purpose of this report — which is essentially a snapshot of information available on July 29, 2016 — is to reduce your stock analysis by enabling you to compare stock and sector performance. Please do your own due diligence before making any investment decision.

As of May 31, 2016, the equity REITs are constituent companies of the FTSE NAREIT All REITs Index. Companies whose equity market capitalization is lower than $100 million have been disregarded.

This report is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author is long FCH, XHR, CLDT, PEB.