Will the Party Soon Be Over For Realty Income?

Realty Income has an excellent record in growing its portfolio and its dividends throughout a variety of economic environments.

Jul 9, 2014 at 10:52AM
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Source: Company

Realty Income (NYSE:O) has an excellent portfolio and dividend growth record. More importantly, Realty Income has grown its property portfolio and its distributions in a variety of economic environments and different phases of the interest rate cycle.

It is this resilience to macro economic influences, that makes Realty Income an extremely attractive long-term income vehicle for investors with a desire for recurring dividends and stable portfolio growth.

Background
With the Federal Reserve scaling back its bond buying program, it is only a question of time until the monetary authority initiates the next interest rate cycle.

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Source: Tradingeconomics

Interest rates fell off a cliff in 2008 as credit market froze up and investor confidence plummeted into nirvana as a result of a massive shock in the banking sector. The result: Ultra-low interest rates for an extended period of time in order to promote economic growth.

In fact, key interest rates have been held steady at 0.25% for a while, but the market could see an uptick in interest rates in 2015 as the U.S. economy is increasingly likely to grow on its own without artificial life support from the FED.

The European Central Bank (ECB) just cut its benchmark interest rate from 0.25% to 0.15% in order to stimulate growth which is still sluggish thanks to economic woes in South European countries such as Greece and Portugal.

In addition, the ECB just reduced deposit rates from 0.00% to minus 0.10% in order to stimulate lending in the eurozone.

The bottom line is, that interest rates in both the U.S. and Europe have bottomed and are much more likely to increase in the coming quarters as the economies regain their strength.

Investor anxiety over increasing interest rates
Real estate investment structures such as traditional residential and commercial REITs as well as mortgage REITs sold off sharply in May of last year as investors started to perceive higher prospective interest rates as a threat to (real estate) businesses that rely on debt to leverage their returns.

With REITs selling off due to investors' interest rate fears, Realty Income was similarly thrown under the bus: Its stock price fell from $55 in May 2013 to approximately $40 per share in June 2013.

Ultimately, higher interest rates translate into higher funding costs for real estate businesses. With interest rate hikes in the United States around the corner, will cyclical rate increases really hurt REITs like Realty Income?

Portfolio growth
The short answer: Probably not. For one thing, Realty Income has an excellent portfolio growth record and has consistently grown its business in periods of booms and market distress as well as in periods of ultra-low and high interest rate environments.

As the chart below highlights, Realty Income indeed has a mortgageable track record in delivering growth, which should be highly comforting to investors sweating adverse business effects from higher interest rates down the line.

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Source: Realty Income Annual Shareholder Meeting Presentation

Dividend stream as strong as ever
Realty Income also has an excellent track record in rewarding shareholders for their investment. Again, Realty Income's dividends have risen throughout the financial crisis as well as before the financial crisis when interest rates were materially higher than now.

Realty Income has proven over and over that it can accommodate different interest rate environments and its distribution growth is very likely to remain unaffected by cyclical interest rate increases in 2015 and beyond.

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Source: Realty Income Investor Relations Website

Looking ahead
Realty Income has impressively demonstrated over the years, that it can perform for shareholders and increase dividends in times of high and low interest rates as well as in periods of strong GDP growth and recessions.

A bankable track record in portfolio and dividend growth is all investors need to know in order to determine how resilient Realty Income's business really is.

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Kingkarn Amjaroen owns shares of Realty Income. 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.

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