The S&P 500 is close to an all-time high, but not all areas of the stock market have performed equally well. In fact, the real estate sector has dramatically underperformed the overall market for the past three full years, mainly due to the relatively high-interest environment.
This has created interesting opportunities for long-term investors to add some rock-solid real estate investment trusts (REITs) to their portfolios. One that looks particularly attractive is Realty Income (NYSE: O), which is about 29% below its peak, despite solid results from its business.
Realty Income is a real estate investment trust, or REIT (pronounced “reet”), that specializes in net-leased properties. In simple terms, it owns properties occupied by single tenants, where the tenant is responsible for property taxes, building insurance, and most maintenance expenses.
The company owns about 15,500 properties, about 80% of which are occupied by retail tenants, with smaller concentrations in industrial, gaming, and agriculture properties. It recently has begun expanding into data centers, partnering with leading operator Digital Realty Trust (NYSE: DLR).
The retail tenants are largely recession-resistant and not too vulnerable to e-commerce disruptions. Think dollar stores, drug stores, warehouse clubs, and home improvement retailers, just to name a few examples.
Here’s one important point that shows just how rate-sensitive this REIT is. Even though Realty Income’s stock price is about 30% lower than it was at its all-time high (reached in early 2020), the business itself has performed quite well.
In the most recent quarter, Realty Income generated $1.05 per share in adjusted funds from operations (AFFO), which are the real estate equivalent of earnings per share. It owned 15,457 properties and the portfolio was 98.7% occupied.
In the comparable period in 2019, just before the all-time high was reached, Realty Income’s adjusted FFO was $0.83 per share. The company owned just 5,964 properties and had just started its European expansion, and the portfolio occupancy rate was 98.3% — 40 basis points lower than it is now.
Realty Income is the largest REIT of its kind, but that doesn’t mean it doesn’t have room to grow. In the United States alone, the net lease real estate market in Realty Income’s property types is estimated to be about $5.4 trillion in size, less than 4% of which is owned by public REITs. In Europe, where Realty Income also operates, the market is even larger and less REIT-penetrated. So, Realty Income could conceivably multiply in size several times from here.
