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How to Find Property REITs
by Harry Domash
If you want to invest in commercial real estate, you can do that via real estate investment trusts (REITs).
REITs trade like regular stocks, but they don’t pay U.S. federal income taxes as long as they pay out at least 90% of their taxable income to shareholders. On the downside, REIT dividends are mostly taxed as regular income instead of the lower 15% capital gains rate. So it’s best to keep REITs in tax-sheltered accounts.
There are two basic types of REITs: Property REITs and mortgage REITs.
Property REITs own commercial real estate properties such as apartment complexes, office buildings, or shopping centers. Mortgage REITs don’t own properties; instead they invest in mortgages backed by real estate, typically single-family residential properties. In this article, we’ll focus on property REITs.
Property REITs provide the customary management services associated with leasing properties such as apartment buildings, shopping centers and office buildings. But they can’t operate properties requiring a high degree of personal service such as hotels and healthcare facilities. Instead, they must lease those properties out to third-party operators.
You can use the free, easy-to-use screener at FINVIZ.com to find REITs. Start by going to the FINVIZ homepage (finviz.com ) and then selecting Screener. FINVIZ calls its selection criteria “filters.” On the Filters bar, select “All” to display all of the available filters. Use the associated dropdown menus to select the desired filter values.
Screen For REIT Candidates
I’ll fill in more details as I describe how to screen for promising REIT candidates. If you're not familiar with the term, screeners are programs available on certain financial websites that allow you to search through all listed stocks to find those that meet your selection requirements.
Most property REITs specialize in one of these property categories: retail, healthcare, lodging (hotels, motels, etc.), industrial, office, or mixed industrial/office. Diversified REITs own properties in multiple categories.
FINVIZ allows you to search for REITs by those categories. Start by using the screener’s Industry menu to select a category such as “REIT- Retail.”
Dividend yields are analogous to the interest rate on a savings account. For a stock, your yield is the dividends you receive over a year divided by the price that you paid for the stock. So your yield would be 10% if you received $1 per share of dividends from a stock that cost you $10 per share. Currently, most property REITs are paying dividends equating to 3 % to 7 % yields.
Use the Dividend Yield menu to define your minimum acceptable yield. I specified “Over 4%.”
Look for Growth
Once you’ve established a satisfactory yield, dividend growth is the next most important consideration. You win two ways if the dividends grow while you own a REIT. The higher payouts increase your yield and the dividend increase usually drives
the share price higher. To find the REITs with the best dividend growth prospects, you must pinpoint those with the fastest expected FFO growth. What's that?
Because property owners must deduct non-cash depreciation expenses when calculating earnings, even if the property is, in fact, appreciating in value, reported income is unrealistically reduced by those charges and doesn’t measure the actual cash flow generated by the properties. For that reason, the REIT trade association created a measure called “funds from operations” (FFO), which reflects the actual cash profits generated by a REIT's operations. Although property REITs typically report both net income and FFO, the analyst’ earnings estimates that you see on financial sites for REITs are typically FFO per share estimates rather than earnings per share.
REITs are slower growers than regular growth stocks. Typically, about 5% to 10% annual FFO growth is about all that you can expect.
Use the “EPS Growth Next Five Years” menu to select “over 10%.” Try cutting that number to "over 5%" if you want to see more candidates.
Thanks to the huge trading commissions that they generate, institutional investors such as mutual funds have access to information that you and I never see. Thus, it makes sense to stick with stocks that the big money likes. Institutional ownership measures the percentage of shares held by these savvy players.
Require “over 40%” Institutional Ownership.
Not Too Cheap
Cheap stocks get that way because many investors see problems ahead. Whether they are right or wrong, low trading prices signal added risk, which you don’t need.
For Price, specify “over $5.”
FINVIZ tabulates stock analyst buy/sell ratings into these categories: strong buy, buy, hold, sell, and strong sell. If anything, analysts tend to be overoptimistic. To be on the safe side, pass up stocks that the analysts are avoiding.
Require “Buy or Better” for Analyst Recommendation.
Stocks tend to move in trends. That is, as stock that has been steadily moving up is likely to continue in that direction, and vice-versa. Thus, your best candidates are those that are trending up.
Comparing a stock’s share price to its moving average (average closing price over a specified number of days) will tell you which way a stock is moving. Uptrending stocks are trading above their moving averages, while downtrending stocks are trading below. The 200-day moving average measures a stock’s long-term price action.
Use the “200-Day Simple Moving Average” menu and specify “Price Above” to limit you list to uptrending REITs.
That's it. Click here to see what the screen turns up today (The default category is retail. Use the Industry dropdown menu to select other categories).
Spend some time understanding a REIT's business by reading its quarterly earnings press release a s well as the management discussion portion of its quarterly and annual SEC reports which can be found on Yahoo and other sites. The more you know about your stocks, the better your results.