Income investors need to balance three competing goals. First, they need steady, reliable income. Second, they need safety, because capital preservation is of paramount importance to a retiree. Finally, they should have some growth, which leads to rising dividends that can help to offset inflation.
The real estate investment trust (REIT) sector is usually a good place for income investors to begin their search. REITs generally have high yields because they are exempt from paying income tax at the corporate level, provided they invest in real estate and distribute most of their earnings as dividends. Here are two that are worth considering.
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Realty Income is a classic defensive income stock
Realty Income (O 0.11%) is a REIT that focuses on single-tenant properties under an unusual landlord-tenant relationship. Under most leases (generally called gross leases), the tenant is responsible for rent, while the landlord pays the taxes, insurance, and maintenance. This arrangement would describe the vast majority of mall or apartment leases. Under Realty Income's agreement, the tenant absorbs these costs, which is referred to as a triple-net lease arrangement. These leases generally have longer terms (10 years or more) and contain automatic rent increases.
Because these leases are so long, Realty Income must vet its tenants quite carefully to ensure they have the financial wherewithal to make it through tough economic times. If you look at Realty Income's typical tenant, it is a dollar store, convenience store or drugstore. These industries are highly defensive, which means that consumers will still shop at them even in a recession. Regardless of the state of the economy, people will still purchase paper napkins, coffee and personal-care products.
During the COVID-19 pandemic, most REITs were forced to cut their dividends because many of their tenants were either shut down or had their businesses severely restricted. Most of Realty Income's tenants were able to remain open, and Realty Income increased its monthly dividend three times during 2020. Its long track record of dividend increases has also made it a Dividend Aristocrat. At current levels, it has a dividend yield of 5%. Realty Income stock should be a core holding of an income investor's portfolio.
American Tower offers both growth and income
American Tower (AMT 1.09%) is a REIT that builds and operates cellphone towers, renting out space on them to an array of telecommunications companies. This is a highly concentrated business with high barriers to entry. The industry is dominated by three companies: American Tower, Crown Castle, and SBA Communications. Many of the best tower locations have already been taken and the lease terms for the towers tend to last a long time.
American Tower is benefiting from the long-term trend of increased cellphone data usage. According to some studies, mobile data usage is expected to grow at a cumulative annual rate of 27% through the end of 2027. This will be driven primarily by the rollout of 5G. This means that American Tower should grow at a much faster rate than the overall economy for a long time going forward.
The stock has a dividend yield of 2.7%, which is low for a REIT, but that's because American Tower continues to reinvest cash back into the business. The company also has an amazing statistic of hiking its dividend every single quarter for the past decade, and every quarterly dividend has been larger than the previous one. So income investors not only get a yield but also a growing income stream.
