ETF Teardown: The Best REITs

Noted for simplicity and other advantages over mutual funds, exchange-traded funds have become a popular investing tool.

ETFs hold collections of stocks that share certain elements. If investors think the real estate sector presents a great opportunity today, for example, they can turn to the iShares Dow Jones US Real Estate ETF, whose top holdings include Annaly Capital Management (NYSE: NLY  ) and General Growth Properties (NYSE: GGP  ) . But because this ETF invests in a number of REITs, its broad diversity also limits your upside.

Fear not, Fool -- in this edition of "ETF Teardown" we'll use some nifty tools to drill into the best investments in real estate. To help, we'll use Motley Fool CAPS, our tool for screening and ranking stocks and stock pickers.

The power of tags
To help investors locate promising stocks quickly, CAPS-rated stocks are tagged with descriptors that group the company with others in the same category -- "Railroads," for example, or "Teen Clothing."

Selecting the "REIT - Diversified" label in CAPS gives you a list of 55 investments that own properties across several segments such as retail, hospitality, and office space. This particular collection of investments has dropped significantly in the past year, down 27.3%, while the S&P 500 has ticked down by 7.6%.

To gauge which companies the CAPS community thinks offer good opportunities in this particular sector today, we'll sort these businesses by their CAPS star rank, from one to the maximum five stars. We'll then examine some of the companies to see who -- from Wall Street to Main Street -- is bullish or bearish on the business, and why.

Down to the nitty-gritty
Here are some diversified REIT stocks I've pulled from CAPS today:

Company

CAPS Rank

Market Cap (millions)

RAIT Financial Trust (NYSE: RAS  )

***

$520

Newcastle Investment (NYSE: NCT  )

**

$605

Duke Realty (NYSE: DRE  )

**

$3,350

American Financial Realty Trust (NYSE: AFR  )

**

$990

Thornburg Mortgage (NYSE: TMA  )

*

$1,660

Beat the REIT
Making the contrarian pick list not once but twice as shares plummeted last July, real estate financial firm RAIT Financial was spared no mercy during the recent mortgage malaise that also thrashed major banks and homebuilders in the late summer. With the company's direct exposure to everything taboo in the economy today -- through investments in residential mortgages, mortgage-related receivables, and other real estate assets -- it's no wonder investors dropped RAIT Financial like a hot rock.

In the past six months, management has made a number of moves to shore up confidence in the company -- a healthy stream of insider buying has been accompanied by a stock repurchase plan, and executives have even recently opted out of certain equity awards. But when investors lose roughly three-quarters of their investment in short order, there's little that can be done to keep class action lawsuits from piling up.

The company has committed to continue paying dividends to shareholders with a $0.46 distribution announced in the most recent quarter.

Shares in the company briefly jumped up to nearly $11 per share when the dividend was announced but have since settled back down to a level around $8.50 per share. Although many CAPS players remain wary of RAIT Financial's exposure to low-quality mortgage debt, a solid group sees the selling on the stock as overdone, especially considering management's willingness to pony up its own cash for shares and a still-generous dividend. Of the 267 CAPS investors rating the company, 237 see the company outperforming the S&P going forward.

No joy in jumbo
Another firm riding the see-saw in the mortgage playground and receiving even less love from CAPS investors is Thornburg Mortgage. Like RAIT Financial, Thornburg's stock was severely punished last summer, but it has managed to recover somewhat as the Fed continued to drop rates and government initiatives to soften the mortgage blow come closer to reality.

Thornburg is in somewhat of a unique situation with its exclusive focus on above-prime jumbo and super-jumbo loans. And although many investors think the company has made some savvy moves -- it sold off a substantial portion of its portfolio and temporarily suspended the dividend -- to help it ride out the current turmoil, others think the bottom has not yet been found. Indeed, more than 57% of CAPS All-Stars rating the company are still bearish.

You can lead a horse to water ...
Plucking individual stocks from the real estate sector is, of course, a high-risk endeavor. Investors should always perform their own due diligence on companies and not take recommendations without their own research. After all, even the best stock pickers can be horribly wrong on a stock.

So, do you agree that real estate is poised for a rebound? Or is the bottom still a ways away? Let's hear your opinion in Motley Fool CAPS.


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