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Will Realty Income Help You Retire Rich?

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Now more than ever, a comfortable retirement depends on secure, stable investments. Unfortunately, the right stocks for retirement won't just fall into your lap. In this series, I look at 10 measures to show what makes a great retirement-oriented stock.

Retirement investors have increasingly looked to real estate investment trusts for dependable income, especially as yields on fixed-income securities have declined substantially. REIT Realty Income (NYSE: O  ) is a good example of a broad-based play on the commercial real estate market, and it delivers solid yields and monthly income. But is the REIT a safe bet for the future? Below, we'll revisit how Realty Income does on our 10-point scale.

The right stocks for retirees
With decades to go before you need to tap your investments, you can take greater risks, weighing the chance of big losses against the potential for mind-blowing returns. But as retirement approaches, you no longer have the luxury of waiting out a downturn.

Sure, you still want good returns, but you also need to manage your risk and protect yourself against bear markets, which can maul your finances at the worst possible time. The right stocks combine both of these elements in a single investment.

When scrutinizing a stock, retirees should look for:

  • Size. Most retirees would rather not take a flyer on unproven businesses. Bigger companies may lack their smaller counterparts' growth potential, but they do offer greater security.
  • Consistency. While many investors look for fast-growing companies, conservative investors want to see steady, consistent gains in revenue, free cash flow, and other key metrics. Slow growth won't make headlines, but it will help prevent the kind of ugly surprises that suddenly torpedo a stock's share price.
  • Stock stability. Conservative retirement investors prefer investments that move less dramatically than typical stocks, and they particularly want to avoid big losses. These investments will give up some gains during bull markets, but they won't fall as far or as fast during bear markets. Beta measures volatility, but we also want a track record of solid performance as well.
  • Valuation. No one can afford to pay too much for a stock, even if its prospects are good. Using normalized earnings multiples helps smooth out one-time effects, giving you a longer-term context.
  • Dividends. Most of all, retirees look for stocks that can provide income through dividends. Retirees want healthy payouts now and consistent dividend growth over time -- as long as it doesn't jeopardize the company's financial health.

With those factors in mind, let's take a closer look at Realty Income.

Factor

What We Want to See

Actual

Pass or Fail?

Size

Market cap > $10 billion

$5.2 billion

Fail

Consistency

Revenue growth > 0% in at least four of five past years

5 years

Pass

 

Free cash flow growth > 0% in at least four of past five years

4 years

Pass

Stock stability

Beta < 0.9

0.77

Pass

 

Worst loss in past five years no greater than 20%

(8.2%)

Pass

Valuation

Normalized P/E < 18

50.94

Fail

Dividends

Current yield > 2%

4.6%

Pass

 

5-year dividend growth > 10%

2.7%

Fail

 

Streak of dividend increases >= 10 years

18 years

Pass

 

Payout ratio < 75%

166.8%

Fail

       
 

Total score

 

6 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Realty Income last year, the company has kept its six-point score. The REIT has put up some solid performance, though, with about a 20% gain in its share price over the past year.

At first glance, some investors may find Realty Income's dividend yield somewhat disappointing. With much of the attention in the REIT world focusing on Annaly Capital (NYSE: NLY  ) , American Capital Agency (Nasdaq: AGNC  ) , and other highly leveraged REITs that own mortgage-backed securities and produce huge dividend yields, Realty Income's payout of less than 5% is indeed modest by comparison. But Realty Income is much safer from a debt perspective, with a long-term debt-to-equity ratio of just 73%, showing that it isn't nearly as susceptible to changes in credit-market conditions as mortgage REITs.

Moreover, where Realty Income really stands out compared to rivals National Retail Properties (NYSE: NNN  ) and Regency Centers (NYSE: REG  ) is in the quality of its tenants. It has leased the vast majority of its recently acquired properties to investment-grade tenants, and most of its leases are extremely long term, with more than half of its existing leases in place until 2023 or later.

Realty Income is also betting big on the future of the industry. Its planned buyout of American Realty Capital Trust for about $1.9 billion will add plenty of bulk to Realty Income and help add to an already impressive real estate portfolio.

For retirees and other conservative investors, Realty Income's monthly dividend schedule and healthy yield are extremely attractive elements. Earnings-based valuations are somewhat misleading given the REIT structure, and after a pullback from higher levels this summer, Realty Income looks promising as a possible addition to retirement portfolios.

Keep searching
Finding exactly the right stock to retire with is a tough task, but it's not impossible. Searching for the best candidates will help improve your investing skills, and teach you how to separate the right stocks from the risky ones.

If you're really looking for big dividend income, Annaly Capital still gives you more of what you want. But there are some crucial issues investors have to understand about Annaly's business model to decide whether Annaly's a buy. In our brand-new premium research report on the company, our analyst runs through these absolute must-know topics, as well as the future opportunities and pitfalls of their strategy. Click here now to claim your copy.

Add Realty Income to My Watchlist, which will aggregate our Foolish analysis on it and all your other stocks.


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Dan Caplinger
TMFGalagan

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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Related Tickers

9/12/2014 4:03 PM
O $42.50 Down -1.25 -2.86%
Realty Income Corp… CAPS Rating: ****
AGNC $22.71 Down -0.59 -2.53%
American Capital A… CAPS Rating: ****
NLY $11.38 Down -0.34 -2.90%
Annaly Capital Man… CAPS Rating: ****
NNN $35.03 Down -1.37 -3.76%
National Retail Pr… CAPS Rating: ****
REG $55.02 Down -1.83 -3.22%
Regency Centers Co… CAPS Rating: **

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