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There hasn’t been a better time to buy real estate investment trusts (REITs) since July 2009. That was the last time this “simple signal” flashed B-U-Y.
Investors who bought on this signal then have enjoyed 223% returns since. And those gains didn’t require any fancy stock picking – just a one-click purchase of the Vanguard REIT ETF (VNQ).
The signal? VNQ itself paying 5%:
Highest REIT Yields Since the Financial Crisis
Most income hounds get it wrong. They pile into REITs when their yields are low because they are desperate for any positive income stream. That’s a bad idea because there are only two ways REITs can pay you:
- With today’s dividend, and
- With tomorrow’s (hopefully higher) payout.
As with stocks in general, it’s usually a bad move to accept a lower-than-usual dividend today in hopes of future growth. That’s a sure way to guarantee underperformance.
A better strategy is buying stocks – especially REITs – when their yields are higher than usual. Over VNQ’s 11-year history, its price has tended to mirror its yield:
Buy VNQ When Yield is High
But Isn’t This Time Different?
“First-level” investors – those who buy and sell on headlines – mistakenly believe that real estate investment trust (REIT) profits will suffer if rates rise.
Sure, in the short run, the “rates up, REITs down” theory puts on quite the show. When the 10-Year Treasury’s yield rises, REITs usually fall. And when its yield drops, REITs usually rally. This inverse relationship tends to hold up over multiple days, weeks and even months:
A Short-Run Seesaw Between REITs and T-Bill Yields
The theory backing up this price action says that, because REITs borrow money to grow their property empires, they need cheap cash. Yet this isn’t a “must have” criterion for all such landlords. If their costs increase, they can simply raise the rents when the lease is up for renewal, passing on their higher borrowing costs to tenants.
For example, let’s look at a three-year period starting in May 2003 when the 10-year rate climbed two full basis points – from 3.2% to 5.2%. Based on recent REIT price action, you’d expect most firms would be out of business!
But blue chips such as mall operator Simon Property Group (SPG) and self-storage stalwart Public Storage (PSA) not only survived the rate increases – they thrived:
The Best REITs Climbed With Rates
Why? Because rising rates signaled a booming economy – one in which these firms had no problem raising their rents. Both boosted dividends while investors in each stock enjoyed 129% total returns over the three-year period.
Brett Owens is the Chief Investment Strategist for Contrarian Outlook. For more great income ideas, click here for his latest report “7 Great Dividend Growth Stocks for a Secure Retirement.”