With savings yields lower than they have been in ages, many investors are turning to high-yielding companies for income instead of putting their money in interest-bearing accounts. The market's hottest dividend sector has been REITs, a specialized form of equity allowing investors to own portions of real estate portfolios. Not all yields are created the same, however.
Chasing high yields in REITs could bite you in the end. It is not unusual to see a REIT with a yield of over 10%, and the average yield of the categories is 5.8%. This is not surprising since a REIT is required by the Internal Revenue Service to pay out at least 90% of its earnings as dividends.
But because real estate is capital-intensive and REITs can't retain significant earnings, they tend to employ debt to purchase properties or mortgages, depending on the type of REIT. The debt-to-equity ratio is important as an indicator of how much of a company's structure is due to debt.
Buy at your own risk
Fellow Fool John Maxfield recently warned Fools about seven risky REIT stocks, all of which are among the largest yielders in the space. Outside of those seven stocks, there are other, less risky plays that will still reward you with an above average dividend. Follow along as I examine the REIT industries and identify one company from each that yields above our average yield with debt/equity at or below the average for that group.
Only one company in the diversified group meets the criteria: Chimera Investment (NYS: CIM) . It was on John's list because of its yield over 18%, but its low debt-to-equity ratio is partially due to taking on riskier loans with higher interest spreads. It doesn't meet my definition of "safe." In general, I would avoid most residential mortgage REITs unless they are specifically short-term investments specifically for yields.
Health-care REITs, the smallest of the groups, has fewer stocks to choose from. I found one company, Medical Properties Trust (NYS: MPW) , with a yield over the group average and a debt-to-equity under 1.1. As a company that invests in health-care facilities, an aging population and the implementation of health-care reform could help its performance. Combine that with a debt/equity ratio of 0.83 and it can add more debt to help expand without diluting shareholder value.
It's not easy to find a decent yield among hotel and motel REITs, the lowest-yielding group. I like Pebblebrook Hotel Trust (NYS: PEB) despite a lower yield than some of its peers. It has the lowest debt/equity ratio in the group, and is helmed by an industry veteran who seems to know what he is doing.
DCT Industrial Trust (NYS: DCT) is my choice in the unsexy world of industrial REITs. The trust invests in high-quality, generic distribution warehouses and light industrial properties that are leased to corporate customers. As the economy continues to slowly recover, companies could resume expanding, requiring storage and office space. DCT is poised to capitalize if this happens, owning 449 properties in 24 markets, 85% of which are warehouses. Combine that with its 6.4% yield, and DCT might not be that boring after all.
Office REITs own office buildings, which are then leased to businesses and other entities. I like Government Properties Income Trust (NYS: GOV) , which primarily leases its buildings to government agencies. Eighty percent of its buildings are currently leased to the federal government; one of its interesting acquisitions this year was some office space for the United Nations in New York City. Having the federal government as its primary customer will help ensure that rents will continue to be paid, and an average of four years remaining on its leases will hopefully protect against potential budget cuts and lost rental income.
My choice in residential REITs goes against the previous established criteria. This is because so many residential REITs invest in mortgages, something that I'm not keen on. But Senior Housing Properties Trust (NYS: SNH) owns independent-living and assisted-living communities, retirement communities, nursing homes, wellness centers, and other medical facilities. As of June 30, the Trust owned 339 properties in 39 states and Washington, D.C. Its yield is just below the average yield for the group, 7.2%, but its debt/equity ratio is nearly a third of the average.
Retail REITs are truly diversified in the types of properties in which they invest. Entertainment Properties Trust invests in a diverse group of properties, including movie theaters, metropolitan ski parks, and public charter schools. Hospitality Properties Trust invests primarily in lodging and travel centers across the country. My choice, Hersha Hospitality Trust (NYS: HT) , invests in upscale hotels in central business districts in the northeastern U.S. Reiterating guidance for the year with recent quarterly results is a positive signal for a company with a 6.3% dividend yield.
Non-REIT dividends are A-OK
While REITs might be the hottest dividend sector, there are plenty of other dividend stocks out there. If you want to find some great dividends outside of this sector, please request our Special Free Report "13 High-Yielding Stocks to Buy Today" to get some more ideas on dividend plays for your portfolio.
At the time thisarticle was published Foolish contributor Robert Eberhard owns no shares in any companies mentioned here. Follow him on Twitter, where he goes by @GuruEbby. The Motley Fool owns shares of Chimera Investment and Pebblebrook Hotel. Motley Fool newsletter services have recommended buying shares of Pebblebrook Hotel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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