When investing in real estate investment trusts, or REITs, there are plenty of choices, but those trusts specializing in retail properties like National Retail Properties (NYSE:NNN) or Kimco Realty (NYSE:KIM) offer some pretty distinct advantages. These companies provide an excellent combination of growth potential and stability, and tend to offer above-average dividend yields than many other types of equity REITs for a number of solid reasons.
Why retail REITs?
This is a broad category, as these REITs can invest in freestanding retail buildings, shopping malls, or shopping centers. All can be good options due to generally favorable lease terms, good occupancy rates, and minimum potential for unforeseen expenses.
There are two notable advantages to retail REITs' portfolios of properties. First, most of the tenants are major retailers, which are very established and stable. Second, the properties owned by the trust are leased for long periods of time (15 to 20 years) on a triple-net basis, which means the tenant pays for taxes, insurance, and maintenance or repairs on the building.
What this ultimately means is retail REITs don't have a lot of variable expenses. For instance, if property taxes shoot up one year, the tenant bears the burden, not the REIT. They also have plenty of notice before a tenant vacates, and these two factors combine to produce very consistent income for the trust. Let's take a closer look at each type of retail REIT and see which one might be a good fit for your portfolio.
Trusts that invest in freestanding retail properties generally lease their properties to nationally known tenants, which gives an added sense of stability. For instance, National Retail Properties' largest tenants include such companies as 7-eleven, LA Fitness, SunTrust, and Best Buy.
One great choice here is National Retail Properties, but most REITs of this kind offer a similar structure. The average active lease on National Retail's properties still has 12 years left on the term. This company's vast portfolio of more than 1,860 properties in 47 states makes it a excellent option if you're looking for geographic diversity.
The trust currently pays a very nice yield of 4.78%, and it has a very good record of steady, consistent dividend raises over time. In fact, National Retail Properties is one of only 102 publicly traded companies to increase their dividend for 24 consecutive years.
Trusts investing in shopping malls can have an even stronger diversification advantage. For example, General Growth Properties (NYSE:GGP) owns about 120 shopping malls, which consist of about 125 million square feet. If each mall has 100 different retailers (a low estimate), this translates to about 12,000 individual retail spaces.
Although the company had a rough patch during the financial crisis, it has done a great job in recent years of simplifying the portfolio and focusing on its core assets. The company currently pays 2.7% per year, but profitability is rapidly improving and there is good reason to expect a significant increase in the dividend this year. REITs have to pay out at least 90% of their income to shareholders, and S&P forecasts $1.26 earnings per share for 2014; using the 90% rule, this translates to an expected annual yield of 5.2%.
Shopping centers are somewhere in the middle of freestanding retail and shopping malls, and a good trust specializing in this type of property is Kimco Realty Corp. Kimco has interests in about 850 shopping centers in 42 states.
Most of Kimco's properties are community shopping centers anchored by a discount department store or supermarket. The company's tenant base is very diverse, and no single company accounts for more than 3% of the trust's income. Furthermore, those companies contributing the most to Kimco's revenue are extremely stable and well-known. The top five tenants by revenue are The Home Depot, TJ Maxx, Wal-Mart, Sears, and Best Buy.
Kimco currently pays about 4.1% annually, and the company has done a good job of steadily increasing its income (and payout) over the past few years.
Two ways to wealth
Investing in REITs like these produce a double wealth-building effect over time. First, they produce a nice, growing income stream that compounds over time when reinvested. Second, the properties owned by the trust also increase in value, which produces corresponding gains in the value of the shares themselves. Retail REITs are one of the best ways to build this kind of wealth while maintaining a stable, low-risk portfolio.
Matthew Frankel has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.