Best of the Week
Most Popular
1.Stock Market Crash and Recession Indicator Warning: Extreme Danger Ahead - Harry_Dent
2. Is This How World War III Begins, In Almost Complete Silence? - Jeff_Berwick
3.Trump Wins 2nd Presidential Debate, Betfair Betting Markets Odds Bounce - Nadeem_Walayat
4.Why Krugman, Roubini, Rogoff And Buffett Dislike Gold - GoldCore
5.End of SPX Stock Market Correction Nears - Tony_Caldaro
6.Get Ready for the Future - Exponential Machine Intelligence Mega-trend towards Singularity - Nadeem_Walayat
7.US Housing Market Bubble II – It’s Happening Again! - Andy_Sutton
8.FTSE BrExit Stock Market Panic Crash Resolves towards New All Time Highs - Nadeem_Walayat
9.Can Trump Still Win Despite Opinion Polls, Bookmakers and Pundits all Saying Hillary has Won? - Nadeem_Walayat
10.Gold’s, Miners’ Stops Run - Zeal_LLC
Last 7 days
4 Incredible Market Forecasts You Have to See to Believe - 26th Oct 16
Silver Prices in an Exponential Financial System - 26th Oct 16
Rigged Election: Hillary and Trump Caught Partying Like BFF’s With Kissinger at Jesuit Gala - 26th Oct 16
The Current Message of Yield Curves: Inflation or Deflation? - 25th Oct 16
Broken Central Banks: 4 Quick Pix - 25th Oct 16
Government Stimulus is an Oxymoron, Debt to GDP - 25th Oct 16
Where Will Crude Oil Price Head Next? - 25th Oct 16
Diamonds in the Gold and Silver Mining Stocks - 25th Oct 16
Trump’s Gettysburg Address against the New World - 25th Oct 16
This Past Week in Gold - 24th Oct 16
Can Gold Continue To Rise, Since The Usd Is Moving Higher Too? - 24th Oct 16
Why are Americans Avoiding the Stock Markets; Fear or Lack of Money? - 24th Oct 16
The US Is NOT a Low-Tax Jurisdiction - 24th Oct 16
Stocks, Crude Oil and EURUSD Trend Forecasts - 24th Oct 16
Stock Market Another Month to Go? - 24th Oct 16
Large Sell-off in Stock Market Looming - 24th Oct 16
Ungovernability - 24th Oct 16
Stock Market Boredom Before The Storm - 24th Oct 16
Establishment Mainstream Media Elite Buys US Election for Hillary Clinton, Time Running Out for Trump - 23rd Oct 16
Inflation About To Explode Higher - 22nd Oct 16
Still waiting for SPX uptrend to kick off - 22nd Oct 16
Will a Rising US Dollar Crush Gold’s Fledgling Bull? - 22nd Oct 16
Why The Global Economy Will Disintegrate Rapidly Back to Olduvai Gorge - 22nd Oct 16
GLD Bleeds Out; Weekly Gold Update - 22nd Oct 16
Stock Market Investment Success Through the “Investment Rule of 72” - 21st Oct 16
The Final Bottom in Gold - WHEN - 21st Oct 16
Gold Green Lights Upleg - 21st Oct 16
Demand for US Mints Silver Eagles has ‘Returned with a Vengeance’ - 21st Oct 16
Central Bankers Can't Stop The Death Blow Of The Post US Election Recession - 21st Oct 16
The Fortune at the Bottom of the Pyramid: Golden Opportunity for Frontier Asia - 21st Oct 16
Have You Taken These 4 Simple Steps to Improve Your Trading? - 21st Oct 16
The Stock Market is an Accident Waiting to Happen - 20th Oct 16
It's Rally Time for Gold and Silver Equities - 20th Oct 16
Cashless Society – Risks Posed By The War On Cash - 20th Oct 16
China's insane Housing Market Will Tumble and Crash in 2017 - 20th Oct 16
Donald Trump Bounces Going into 3rd and Final US Presidential Election Debate - 20th Oct 16
Attention Please: Phase Two of the Gold and Silver Train Now leaving the Station. All Aboard? - 19th Oct 16
How to Successfully Trade a Stock Market Crash - Black Monday October 19th 1987 - 19th Oct 16
Tesla, Apple and Uber Push Lithium Prices Even Higher - 18th Oct 16
Silver, Debt, and Deficits – From an Election Year Perspective - 18th Oct 16
UK Property Market: Slow Growth Does Not Equate To Decline - 18th Oct 16
Trump Election Victory is in Your Power - 18th Oct 16
Stock Market More to Come! - 18th Oct 16
This Past Week in Gold and Silver - 17th Oct 16
A Falling Stock Market Cannot Be Allowed - Financial Repression Is Now “In-Play”! - 17th Oct 16
Commodities, Forex and Stock Market Trend Forecasts - 17th Oct 16
Stock Market Crash..or No Crash? - 17th Oct 16
A perspective on risk rally – Risks abound but Stock Market is Confident - 17th Oct 16
Bank of England Blames Brexit for Sterling Drop Inflation, Masks QE Money Printing Cause - 17th Oct 16
From Piety to Pride to Pity, America's Racial Divide - 17th Oct 16

Free Instant Analysis

Free Instant Technical Analysis

Market Oracle FREE Newsletter

The Power of the Wave Principle

Investing in Housing Market REITs Instead of Property: Our Pick

Housing-Market / US Housing Apr 26, 2013 - 01:56 AM GMT

By: Don_Miller


I get a lot of questions from readers about holding real estate as an investment. Indeed, many are in response to another newsletter editor who was recently advocating that the only way for retirees to make decent income was to own property.

Personally, I wouldn’t hold physical property in our portfolio for three reasons.

First, it’s very illiquid; that makes it an instant failure on our Five-Point Balancing Test.

Second, you won’t get yield from a property for three to five years, but will instead pay to own it.

And third, depending on the size of your portfolio, an investment in physical real estate could throw off your balance. Allocating too much of a portfolio to a single industry is never a good idea. With a piece of property worth $100K, $200K, or more, you can suddenly find your retirement very dependent on the outcome of a single asset class.

However, at the same time, it’s hard to ignore that something is happening in real estate. The post-crash taboo around it is starting to disappear as prices increase. Are we so bullish on real estate that we would buy properties in Las Vegas? No, we’re not there; but at the same time, we wouldn’t mind dipping our toe into the shallow end of the pool with some more conservative opportunities.

Furthermore, rather than invest in physical properties directly, we’d rather invest in real estate investment trusts (REITs), which are traded on stock exchanges like any other stock. REITs are corporations that buy, sell, and rent real estate for their shareholders.

To be considered a REIT, 75% of a corporation’s income must come from real estate in some form. Furthermore, REITs can deduct their dividend payments from taxable income. Here are a few more of their key advantages over physical property:

·         First, there’s the liquidity. You can buy shares this morning, change your mind, and sell them by the end of the trading day. Try that after signing a purchase agreement and the checks have gone through on physical property.

·         Second, REITs are required to pay out 90% of their net income to their shareholders or they lose their special tax status. Where physical property doesn’t usually provide yield right away, REITS will start paying right off the bat.

·         And last, you can invest to match your portfolio, whether that’s purchasing only $1,000 or $1 million worth of shares.

These are some of the advantages of REITs, but there are drawbacks as well. I asked our senior analyst, Vedran Vuk, to find us a REIT worth adding to the portfolio. His pick is a little more conservative than most REITs, but its great way to pick up steady dividend income with capital appreciation potential as well.

HCP Inc. (HCP) – BUY

As just noted, we’re not looking to dive into the Florida condo market nor to start flipping houses in Vegas. Nonetheless, we still want to dip into the real-estate market... just not in the deep end of the pool.

Healthcare REITs are a more stable area in the real-estate investment world. While they took a hit in 2008 like many other real-estate investments, many bounced back a lot quicker than other REITs. Along with being more defensive, healthcare REITs offer a unique opportunity for retail investors. While most of us could afford a single-unit investment property or even an apartment building, only the wealthiest could even think about investing in a hospital or a retirement home on their own.

While researching the choices in the healthcare sector, HCP stood out. From the firm’s core operating principles, you can quickly see why:

1.    Opportunistic investing;

2.    Portfolio diversification;

3.    Conservative financing.

Opportunistic Investing

HCP only invests when a good opportunity presents itself. In a recent earnings call, an analyst asked why HCP was making fewer acquisitions than many others (although the company is still making plenty). One of the executives answered that you don’t swing at every ball the pitcher sends your way. That’s our perspective as well. It’s not just about hitting home runs, but knowing when not to swing as well.

Portfolio Diversification

This item is very important to us too. Since this is our entrance into the real-estate sector, we don’t want to put our whole bet on a single part of the country. The map below shows the concentration of properties. While some places like California aren’t our favorite locations, within a diversified portfolio with strong allocations in Texas, Pennsylvania, Ohio, and Florida, among other states, the portfolio is diversified enough to mitigate the risk.

In addition to geographic diversification, we don’t want to get stuck in just one type of property, such as hospitals or medical offices. With more and more healthcare regulation coming through, certain types of buildings will be more affected than others.

For example, for all of the types of healthcare properties, Obamacare will have the most negative impact on nursing homes. The impact isn’t enough to crush those operators, but I certainly wouldn’t want a portfolio of 100% nursing homes in light of the new law. With a diverse mix of properties, HCP protects itself from being exposed to any single change in legislation.

Let’s break down these individual types of properties. “Post-acute/skilled nursing” facilities are essentially nursing homes with skilled professional nurses assisting residents with continuous therapy.

“Senior housing” includes communities designed to help with the requirements of aging. They are not, however, necessarily staffed with skilled nurses. Senior housing includes assisted-living facilities, independent-living facilities, and continuing-care retirement communities. Some of HCP’s primary property operators in this space include Brookdale Senior Living and Sunrise Senior Living. The demographics pushing for these two properties are overwhelming. With 10,000 baby boomers reaching 65 every day for the next 19 years, these facilities won’t be running out of customers anytime soon.

“Life sciences” represents office buildings with modifications for pharmaceutical companies and other biotech firms. Currently, almost the entire life-sciences division is located in Mountain View, California (AKA the San Francisco suburbs). However, the company is developing a few new life-sciences projects in Durham, North Carolina.

And last, the “medical offices” classification is self-explanatory. However, note that these physicians’ offices are not scattered around remote shopping centers. Instead, 83% of them are located on hospital campuses. With an almost $21 billion market cap, HCP ownership totals in these properties are: 447 senior housing communities; 313 skilled nursing facilities; 274 medical office buildings; 108 life sciences properties; and 21 hospitals.

Conservative Financing

Perhaps even more important than diversification is the company’s conservative financing. S&P rates HCP’s credit toward the lower end of investment grade with a BBB+ rating. That’s not bad, but not perfect either.

Beyond the credit ratings, a REIT’s loan structure is a key point to take in to consideration, because interest rates are the Achilles heel of the industry. That’s why we’re putting HCP in our moderate risk category.

When interest rates rise, REITs are sometimes squeezed on two or even three fronts. First, with higher interest rates, there will be fewer buyers in the market, meaning real-estate prices will drop. Second, if the REIT wishes to purchase new properties, it will have to pay higher rates to do so. And third, if the REIT was borrowing with variable-rate loans, costs will go up regardless of what happens.

Unfortunately, there’s not much one can do about the first two factors. However, the third can be avoided by staying clear of variable-rate instruments, and that’s exactly what HCP does. 93% of its portfolio is in fixed-rate loans, with only 7% represented by variable rates.

If interest rates rise, does that mean HCP is toast? Not necessarily; REITs are not like bonds. When rates go up, bond prices must go down. On the other hand, higher rates will put pressure on REITs, but will not necessarily crush them. We could have a scenario where there’s a really strong real-estate recovery matched with rising rates – the surge in demand could possibly offset the higher rates. This is a possibility, but we wouldn’t necessarily bet on it.

When rates start to rise, we’ll likely look for the exit door. Also, be aware of the interest-rate risk in your overall portfolio. If you’re already very heavy in CORP, our PIMCO investment-grade bond fund, consider buying a little less HCP or selling a little CORP prior to adding another asset with interest-rate risk.

Some Other Benefits of HCP

The fact that the medical industry is steadily growing – in good times and bad – seems to be the obvious reason for a conservative investment in HCP. But the structure and terms of leased medical properties make them even more secure.

Think about it. Obviously, a hospital or retirement home isn’t going to sign a one-year lease like an apartment tenant. Instead, they often sign for a decade or more. Furthermore, while a tenant in an apartment building expects the landlord to handle most issues, medical buildings are often leased under triple-net leases. In short, a triple-net lease is a landlord’s dream. The tenant pays his rent, along with the property taxes, the insurance, and the maintenance of common areas.

Since the tenant takes care of so much, the actual rent is typically less than in a normal lease agreement. However, this works perfectly for medical REITs, as it takes risk off the table. If a landlord leases a property for over ten years, there’s a significant risk of unexpected costs along the way. In most cases, property taxes and insurance will be more expensive in the future, not less. However, it’s hard to predict how much more. With a triple-net lease, the landlord can enter into long-term contracts without the uncertainty of future costs.

Nearly every single property owned by HCP is leased on a triple-net basis. The only segment excluded from this is the medical-office segment, which has only 48% of properties in triple-net leases. Since these leases take a lot of the risk off long-term contracts, around half of HCP’s leases will expire in 2022 or later. It’s nice to have revenues locked in so far in advance. Below is a chart showing the lease expirations:


You might be thinking to yourself: “Wait, aren’t you missing one of your five points: inflation? Isn’t holding a long-term fixed lease a bad thing in the face of inflation?”

Of course, that’s right. However, HCP’s leases are written to either adjust to the CPI or sometimes to include a fixed annual increase. Here’s an example of one of its recent contract provisions to protect against inflation:

“The contractual rent will increase annually by the greater of 3.7% on average or CPI over the initial five years, and thereafter by the greater of 3.0% or CPI for the remaining initial term.”

We’ve noted our issues with the CPI before, but nonetheless this is better than nothing. If inflation is tame, real rents will actually increase. If it gets worse, they will at least adjust.

Dividends, Yield, and Pricing

Here’s a pleasant surprise to finish off our analysis. HCP is a member of the S&P 500 Dividend Aristocrats Index. To be part of this Index, a company must have consistently increased dividends for at least 25 years. HCP has done so for 27 and has no plans of stopping now. (Note also that it is the only REIT on the Index.)

As you can see in the chart, the dividend increases aren’t always very large, but they are consistent. Last year, the firm paid out $2.00. In 2013, we wouldn’t be surprised to see around $2.07 per share, which would give us a 4.5% dividend yield.

HCP has been in our portfolio for a few months now, and even before then the company was mentioned in our special report Money Every Month, but we hadn’t officially pulled the trigger at that point.

While we still think the company is a solid pick, there isn’t too much meat on the bone here under current conditions. For the stock to move upward, something new needs to happen, like another push up in the real-estate market. Looking at the trend thus far, there’s a good chance of that happening.

The good news is that the downside isn’t particularly large. The stock could retrace its steps a bit, but I don’t see it dropping 20% overnight. So put in a 20% trailing stop, pick up some regular dividends, and keep an eye on this stock.

If you’re interested in solid, stable dividend stocks then I suggest you check out our recently updated Money Every Month report. You’ll find out how easy it is to get dividend payments every month and I’ll even tell which stocks to start with. Click here to find out more.

© 2013 Copyright Casey Research - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Casey Research Archive

© 2005-2016 - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.

Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife