The economy remains resilient despite an aggressive cycle of monetary tightening by the Federal Reserve. That said, recessions have generally followed tightening cycles, and investors should prepare their portfolios for such eventualities by adding some defensive stocks in the coming months that can better cope with a weakened economy.
Real estate investment trusts (REITs) often combine income and defensiveness, which is ideal in a tough economy. Here are two REITs with defensive characteristics and great dividend yields you might want to consider.
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1. Realty Income's triple-net lease model is highly defensive
Realty Income (O -0.17%) is a real estate investment trust that specializes in single-tenant properties under an unusual lease structure. Realty Income uses a structure called a triple-net lease, which means the tenant is responsible for most of the operating costs, including rent, insurance taxes, and maintenance. These leases are usually very long and have automatic rent escalators built into the agreement. The leases are also expensive to break.
Realty Income focuses on tenants with exceptionally strong business models that are resilient over the entire economic cycle. These tenants tend to operate using defensive business models. For example, the typical Realty Income tenant might be a drugstore, dollar store, or convenience store. Even in recessions, consumers still buy plenty of over-the-counter medications, paper plates, and snacks. While the economy has remained resilient in the face of a massive Fed tightening cycle, a recession is not out of the question, and Realty Income's business model is better prepared.
Realty Income management's guidance calls for 2023 adjusted funds from operations (AFFO) to come in between $3.94 and $4.03 per share. At the midpoint of guidance, this gives the company a price-to-AFFO multiple of 15.4, which is reasonable for a high-quality REIT. The annualized dividend of $3.06 is amply covered by the AFFO guidance, and Realty Income has a long history of dividend increases. It also pays its dividend monthly. At current price levels, the dividend yields 5%.
Income investors who are concerned about a Fed-induced hard landing might want to take a look at Realty Income.
2. Kimco Realty benefits from defensiveness in growth markets
Kimco Realty (KIM -0.22%) is another REIT with defensive characteristics. Kimco invests in open-air shopping centers anchored by grocery stores in first-ring suburbs of bigger cities. These areas are characterized by higher barriers to entry. About 81% of Kimco's rents come from shopping centers anchored by grocery stores. Grocery stores are a classic defensive play.
Kimco's geographic footprint is concentrated on the East and West coasts and the Sun Belt states. The Sun Belt markets are seeing 64% population growth, and the coastal markets have average incomes 22% higher than the overall United States average. This combination of growth and income provides stability to Kimco's business model. Occupancy remains strong at 95.8%, which is approaching pre-pandemic levels.
Ever since the 2008 real estate crash, retail development has been slow, and supply has been limited. Retail development accounts for 0.5% of existing stock, which is the lowest of all sectors. Limited supply means that lease spreads on existing properties get ever larger (The lease spread is the amount by which the lease payments exceed the mortgage payments). In the first quarter of 2023, comparable lease spreads increased by 10.3%. So Kimco is making more on the properties it already owns.
Kimco is guiding for 2023 per-share FFO to come in between $1.54 and $1.57. At current levels, this puts Kimco at a price-to-FFO multiple of 12.5 times. This is an attractive multiple for a leading REIT. Kimco pays a quarterly per-share dividend of $0.23, which works out to be an annualized dividend yield of 4.8%. Investors who are concerned about a potential recession might find Kimco Realty an attractive stock.
