Buy the RIET ETF? Focused Investing Newsletter #16

Here at high summer, the early sunshine comes in from the right (the north). Different!

Alex Pettee presides over a growing empire focused on real estate investing. It goes under the umbrella name “Hoya Capital.” Included in the empire are a stable of authors who publish on Seeking Alpha, an investment service offered there, two market indices, and two ETFs.

Alex publishes some very useful summaries and commentary about REITs and various REIT sectors. I do have some quibbles with his views, but not many and not worth discussing here.

Instead, my focus today is Hoya’s High Dividend Yield ETF (RIET), launched in 2021. A friend of mine has built up a large position. Since he is no fool, this prompted me to look more closely.

The website describes the Investment Objective thus:

RIET seeks to track the performance, before fees and expenses, of the Hoya Capital High Dividend Yield Index ("RIET Index"), a rules-based index that is designed to provide diversified exposure to 100 U.S.-listed real estate-related securities that collectively provide income through high dividend yields. 

The RIET Index includes U.S. exchange-listed common and preferred securities issued by Real Estate Investment Trusts ("REITs") and real estate operating companies.

Well, nothing wrong with that but one can note three things.

• Investors flock to high yields like moths to a flame.

• High yields don’t happen by accident; they correspond to risk perceived by the market.

• The market may at times be wrong about the risk, but it is not likely across dozens of companies

So if you are going for volume, whether with an ETF or with an investment research service, including high yield securities is the way to get attract some moths, er …, investors.

This is one reason portfolios often contain high-yielding preferred stocks, even if they are aimed at retirees. I see the delisting and other risks of such preferreds as too large for me or similar retired investors. But they do boost the yield of a portfolio.

RIET goes further than that, including not only a lot of preferreds, but also a lot of mortgage REITs. These are notorious for paying high dividends, some of which are your own capital. They also tend to run NAV down with time.

I worked with the list of securities owned by RIET, which identifies them by Market Cap and separately lists preferred stocks. My further division of the REITs was into equity REITs (eREITs) and mREITs.

That division was from memory and without checking (too tedious) and so will have miscategorized some of them. The large numbers involved should bail me out there.

I assigned typical dividends and guesstimates of the NAV growth rate to each category. The only group for which the dividends are implied by the disclosures are the preferred stocks.

I adjusted the dividends for the two groups of REITs upward to match the overall current yield, after doing some spot checking. It surprised me how high they had to go. [There is an afternote at the end about why the initial version published earlier Saturday was wrong.]

The NAV growth was 3% for the eREITs, -5% for the mREITs, and -5% for the preferred stocks. My expectation is that preferred stocks will fail investors at some rate; my guess is 5%.

Here are the results:

The bottom line, in words, is this prediction: NAV will be relatively flat. It was -1.33% for the year ended in February 2024. So you get a ~10% dividend yield with little prospect of appreciation.

To match that yield, I personally would rather own tobacco stocks. Although I do get the appeal.

Recent News (that caught my attention)

Economic News:

• I saw coverage indicating that both a hawkish and a dovish Fed governor were in agreement with the idea of only one rate cut, late in the year. Does not guarantee anything, of course, but dramatic negative economic news would likely be needed to make that sooner. What a change from the expectation of 7 or 8 cuts in 2024 only about 8 months ago.

Midstreams & Other Energy:

• Pembina and the Haisla Nation announced reaching Final Investment Decision on the Cedar LNG export terminal, a floating liquefied natural gas facility on the west coast of Canada. Expected but still good to see.

• Enbridge confirmed as BBB+ Stable by S&P

• S&P Global Ratings affirmed its 'BBB+' issuer credit rating on TC and all issue-level ratings on the company's debt outstanding, but with a negative outlook. Things they said:

  • “We believe TC Energy Corp. (TC) has made good progress on deleveraging its balance sheet and reducing project execution risk.”

  • “The negative outlook reflects our belief that while TC has made progress on deleveraging, there still is some uncertainty that might prevent the company from achieving a debt-to-EBITDA ratio of 4.7x to 4.8x in 2024 and beyond.”

• Pembina Pipeline (NYSE:PBA) agreed to issue $950M aggregate principal amount of senior unsecured medium-term notes. Some of those are out 30 years.

REITs:

• Alexandria Real Estate (ARE) signed a new 10-year lease comprising 127k SF for its new R&D center at Barnes Canyon Road on the SD Tech by Alexandria campus in the Sorrento Mesa submarket of San Diego. ARE noted that its 1.2 million RSF pipeline of under-construction projects in San Diego is now 94% leased. It is particular good to see this in San Diego, one of the harder-hit markets for life science.

• From GlobeSt.: “The Fed's annual stress test of the US banking system found that the largest US banks have enough capital to withstand severe economic and market turmoil – including any potential shock that a significant drop in commercial real estate values could deliver. Namely, the institutions survived a hypothetical 40% drop in values. … Moody's calculates that the biggest national, regional and community banks each own roughly a 10% to 13% share of overall CRE loans, but the biggest banks only have a 4.3% exposure as a portion of their overall assets.”

This next week:

• My holiday weekend is uncertain. Two kids and partners were slated to visit, but now covid is in the mix. In any event, I expect to stay in the loop from time to time though less focus on investing over the holiday seems a good idea for all of us.

• What will happen here is that you will be front-loaded. My monthly update, probably tomorrow. Also I happen to have finished a theoretical piece out on Monday, probably. There will be no newsletter next weekend.

Member News

This week featured

items that went to all members:

• A weekly newsletter.

Items that went to paid members:

• A deep dive on Agree Realty.

• Brief Note on multifamily REITs

Changes to the Google Sheets (for annual members):

• Check out the REIT assessment sheet and the Midstreams assessment sheet, each a tab on my portfolio sheet.

Also:

• A lot of ongoing random discussions occur on the Focused Investing chat. One can also post items of interest, which I do often. Check it out and post your own items, please.

• Annual paid members should have access to the live, real-time portfolio showing all my stock-market investments, and to the Sheet showing my assessments of selected REITs. (If you don’t have that access, contact me). Comments and questions are welcome.

[Afternote: In my first look at RIET, I used the numbers from that February Annual Report without considering the impact of their rapid growth. Over the year, their distributions equaled 7.2% of their final holdings.]