Do Rising Interest Rates Spell Doom for all REITs? Not By a Longshot.

Real Estate Investment Trusts (REITs) have had a rough go of it lately, due mostly to the effects of steadily rising interest rates.

Because REITs are a bundle of real properties (plus sometimes mortgages and debt products in which real estate holdings are the primary collateral) and pay dividends based on predictable cash flows, their prices tend to mirror the behavior of bonds.

When interest rates rise, the price of bonds fall, as their coupon rate looks relatively less attractive when compared to the coupon on newly issued debt securities that pay higher rates.  The same concept applies to REITs when the income they produce for investors begins to look less competitive compared to bonds and other income producing securities.

It's easy to understand why the past year has been a difficult period for REITs.

Not all REITs are created equal, however. It's important to look at a financial metric not commonly used with ordinary equity securities – Funds From Operations (FFO).  Because REITs typically pay out the majority of income they receive from leasing properties to shareholders as dividends, FFO is an important indicator of their continued ability to pay the dividend.

Plymouth Industrial REIT, Inc PLYM, focuses on the acquisition and management of distribution centers, warehouses and light-industrial properties.  They recently surprised the market, reporting Q1 earnings of $0.27/share, beating the Zacks Consensus Estimate of $0.18 buy a full 50%. Estimates for 2018 have risen to $1.27/share from $0.88/share just 7 days ago, and Plymouth is a Zacks Rank #1 (Strong Buy).

Plymouth also raised guidance on revenues and operating income for 2018. 

Significantly, Plymouth reported Q1 FFO of $2.1M for the quarter, a huge improvement from -$134K a year ago.  This reflects favorably on Plymouth's ability to continue paying it's huge 8.7% dividend. 

Arbor Realty Trust ABR invests in real estate related loans, preferred equity in real estate companies and mortgage related securities, rather than in the physical properties themselves.

Because of its position as a lender in the real estate market, Arbor Trust is in a unique position to benefit from rising rates, lending at higher rates as it retires older notes.

Arbor Trust is a strong earner, beating the Zacks Consensus Estimate in each of the past 4 quarter by an average of 22%.  Rising estimates earn Arbor a Zacks Rank #! (Strong Buy).

With an 8% dividend and currently trading at a forward P/E ratio of 10.5X (versus an average of 15.2X for its peers), Arbor is both a great income investment and an excellent value proposition.

Real Estate Investment Trusts present a unique set of risks and rewards and investors need to understand the differences from traditional equities, but as a way to an income and value to a diversified portfolio, strong performing REITs that have been beaten down with the industry lately might be just the thing.

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