When investors get an investment idea in their heads, they often take it to frightening extremes. The brutal correction in the online space in 2000 is a prime example.
But there's a similar online trend that's gotten a lot of attention lately, namely the growth in online shopping. That's taken the shares of Prologis (PLD 0.50%) sharply higher over the past decade. Is it worth owning this warehouse-focused real estate investment trust (REIT) now that it has pulled back from recent highs?
Near and far
Prologis' stock is up roughly 275% over the past 10 years. That compares to 190% or so for the S&P 500 index and a scant 50% for the average REIT, using the Vanguard Real Estate Index ETF as a proxy. That's some pretty clear outperformance.
The driving factor here has been the ongoing demand for the warehouses that help ensure online shopping happens with no delivery snags. That includes everything from moving products in bulk between countries to improving last-mile delivery times.
To that end, Prologis has a pretty impressive portfolio, with 4,675 buildings spread across key transportation hubs in North America, South America, Europe, and Asia. It would be pretty hard to replicate this portfolio.
Recent results, meanwhile, have been nothing short of incredible. At the end of March, the company's portfolio was 98% leased and had a 75% retention rate. And it was able to sign new leases with rent hikes of as much as 37%. In fact, the company noted in its quarterly earnings report that the difference between in-place rents and market rents is so large that simply rolling expiring leases up to market rates will provide growth for "years to come" even if market rents stagnate. So far, so good.
The bottom drops out
So why exactly has Prologis' stock fallen 30% from its early-year peak? The S&P 500 index and the average REIT are "only" off around 18% from their respective peaks.
The answer is that retail names have been taking a shellacking on Wall Street ever since Target reported earnings that fell short of analyst estimates. Reports that Amazon is looking to sublease space because of overcapacity haven't helped any, given the company's leading position in online retail.
From a big-picture perspective, the broader retail drop, including in the online space, has come from a mixture of inflationary fears and the realization that profit margins -- already under pressure -- will be hit even harder if a recession materializes. Since Prologis is a key part of the logistics system in retail, it has been dragged along for the ride.
While it is entirely possible that investors got too excited about the REIT's prospects, that doesn't actually change the prospects. All that has been altered is the way in which investors view the long term for Prologis' business. Thus, a steep drawdown in the shares has taken shape.
But here's the thing: Online shopping isn't going away. In fact, it is likely to keep growing over time, even if that growth rate slows. So demand for Prologis' space is likely to remain strong, even if there is some near-term softness. This suggests that the potential for revenue increases noted by management (even if rent rates flatline) remains a strong business driver.
However, there's another factor here. Prologis has a substantial portfolio of land on which it can develop new warehouses. The REIT estimates that it can build as much as $26 billion worth of new assets. That development opportunity is spread all over the world as well, so there's no one market that has to thrive for the company to take advantage of this internal investment.
In other words, there are two ways for the REIT to keep growing even if rent rates in the warehouse space go nowhere for a stretch.
It's not done just yet
To be fair, Prologis' 2.2% dividend yield, even after the steep stock-price decline, is still toward the low end of its historical range. A value-focused investor probably won't be interested here. But for those seeking dividend growth, it might be worth taking a closer look, noting its more than 180% increase in the dividend over the past decade. If the company's positive outlook is even close to the mark, the underlying business strength at Prologis isn't going to peter out anytime soon.