The downturn in the stock market in 2022 has been rather widespread and knocked several high-quality stocks down right along with the ones that were overinflated. For short-term investors, that has meant a lot of worry and strife. But for long-term investors, now's a great time to be sort through what history tells us will likely be temporary wreckage to find the valuable bargains worth buying and holding.
Real estate investment trusts (REITs) have generally been a good place to turn to for both passive income and potential share price appreciation. This bear market has made many of these REITs far more affordable. As a recent retiree, I find REITs make sense in my portfolio whether it's a bull or a bear market. Two REITs that I own and can comfortably recommend are Terreno Realty (TRNO -2.12%) and Mid-American Apartment Communities (MAA -0.82%).
Some background on these REITs
Terreno Realty currently generates lease income from 252 buildings and 46 improved land parcels with about 575 tenants, including companies Amazon, FedEx, and Northrop Grumman. This industrial REIT focuses exclusively on smaller, infill logistics and manufacturing properties in high-demand spots near ports, airports, and interstates in and around Los Angeles, northern New Jersey/New York City, Seattle, Miami, Washington, D.C., and its hometown of San Francisco.
Memphis-based Mid-American Apartment Communities, meanwhile, is one of America's largest residential landlords, with about 300 communities and 101,000 units spread across high-growth markets concentrated in the Southeast and Mid-Atlantic states and a growing presence in Texas. Atlanta is currently its biggest market, accounting for 13.1% of its same-store net operating income (NOI). The rest of its top 10 markets are in Texas, Florida, Tennessee, and the Carolinas.
What makes these REITs cheap?
Mid-America Apartment and Terreno stocks are both trading down around 35% so far this year, compared with a roughly 23% drop for the S&P 500. But as the chart below shows, both these REITs have outperformed that big benchmark over the past decade when factoring in the total return.
TRNO Total Return Level data by YCharts
Now, let's look at another metric. Funds from operations (FFO) is the standard measure for how well REITs generate cash flow. It's the cash they use to pay the required minimum 90% of their taxable income to shareholders (generally in the form of dividends). Both MAA and Terreno have been growing FFO while their share prices shrink.
That makes them look like particularly good bargains by another measure: The ratio of current price to trailing-12-month FFO per share. Terreno's trailing-12-month FFO per share now stands at about $2.94, and its price/FFO per share ratio is at 17.8. The former metric is at the highest rate since the company went public in 2010. The latter is half what it was at this point in 2019 just before the pandemic. And that's despite the dilutive effect of issuing 444,512 shares of common stock this quarter.
That FFO is likely to grow further thanks to acquisitions as well as the jump in rents it's expected to charge going forward. Earlier this month, Terreno reported a 50% increase in cash rents on new and renewed leases so far this year in a third-quarter update. Similar bumps can be expected as more leases renew and occupancy remains around 95%. Terreno is also continuing a long string of acquisitions, spending $355 million on 16 properties so far this year, including four for about $66 million in the third quarter.
Mid-America Apartment Communities, meanwhile, is currently available at a price/FFO per share ratio of 14.7, down sharply from the 20 ratio it had in October 2019. But it's also seeing strong rent growth that it expects to amount to a 12.75% to 13.75% bump per unit through 2022. The company also has an aggressive redevelopment program for existing properties and is adding to its presence with acquisitions and developments in several key markets.
Enjoy income now at a bargain price that may not last
While they're not the highest-yielding stocks on the block, these two REITs do outperform the greater market. Terreno's dividend is currently yielding about 2.7% while Mid-America Apartment is at about 3.3%. The average stock in the S&P 500 has a dividend yield of about 1.8%. Over the past decade, Terreno raised its payout by 233% while Mid-America Apartment has bumped its payout by about 80%.
Part of Terreno's appeal as a long-term growth-and-income play comes from the fact that its executive team has skin in the game. Executives receive bonus shares based on performance benchmarked to the MSCI US REIT Index and the FTSE Nareit Equity Industrial Index, and the CEO and president, both co-founders, get their long-term compensation solely in stock. Similarly, the executive team at Mid-America Apartment has an average tenure of 21 years with the organization, which itself went public 28 years ago.
Terreno and Mid-America Apartment are both good examples of stable real estate companies with seasoned management now leveraging strong markets for high-demand logistics space and apartment units in desirable locations, respectively, to build on long records of above-market performance. Their depressed share prices just add to their appeal, and they're likely to enjoy a strong recovery along with the general market itself when that happens.
Cheap, of course, is in the eye of the beholder. These two look that way to me now. I intend to actively add to my stake in both of them when I can, with no plans to sell unless conditions really change on their ground.
