Real estate investment trusts (REITs) have been out of favor lately, with warehouse landlords like Prologis (PLD 0.69%) and Rexford Industrial (REXR 0.47%) performing worse than the average REIT. There are some logical reasons for this even though company-level results for both of these businesses have remained fairly strong. If that sounds like an opportunity to you, the next question should be which one to pick?
What's gone wrong?
Interest rates have risen, and that's led investors to reevaluate prices of income-producing stocks since other income options (like high-yield CDs) are now more competitive. This is a big reason for the broad decline in the REIT sector. Higher rates also put pressure on profits as higher rates raise a REIT's borrowing costs, making it more expensive to finance construction and property purchases.
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Warehouse REITs, meanwhile, have been under additional strain. The big worry is that the huge demand for warehouse space during the coronavirus pandemic, when companies needed extra storage to handle increased online shopping, has cooled. The highest-profile event on this front was when Amazon said it was paring back its warehouse growth plans. This is not an unreasonable concern for investors.
Still strong
The interesting thing about warehouse REITs is that adding new properties is only one of several growth avenues. For many years, warehouse REITs were having trouble increasing rents. Then, all of the sudden, rates started to rocket higher because of strong demand. Demand may not be as robust as it was, but occupancy levels remain impressive. Both Prologis and Rexford had occupancy levels of 98% in the first quarter. That's allowed these REITs to push through very large rental increases. Prologis jacked up rents a huge 69% in the quarter, with Rexford up an even larger 80%.
This is not a one-quarter story. Lease expirations are staggered over many years, so there's still more room for higher rents to benefit these REITs as more space gets renewed in the years ahead. So even if there's less demand for new buildings, which is possible, rent increases should to support continued strong growth.
Which one to pick
Here's where things get interesting. Prologis' portfolio includes 1.2 billion square feet of space spread over four continents and 19 countries. It is, basically, in all of the important transportation hubs where customers want to be. With a market value of more than $100 billion, it is an industry giant. Add in an investment-grade credit rating, and there's even more to like. The positives list also includes a decade of annual dividend increases, with an annualized growth rate of 11% during that span. With the stock down around 30% from its 2022 peak, it would seem like an attractive option for conservative long-term investors that value diversification.
Rexford is for investors who prefer to focus on unique opportunities. This REIT owns roughly 43 million square feet of space in Southern California. This market, however, has vacancy rates that are less than half the level of other key U.S. markets, which is expected to result in elevated rental growth. So Rexford is highly concentrated, but in a very attractive region. And its $10 billion market cap is hardly small, even though it is well below that of Prologis. Rexford hasn't quite hit a decade of annual dividend increases just yet, but it has boosted its dividend annually since its initial public offering in mid-2013. The dividend growth rate, meanwhile, has been very rapid, with average annualized increases over the past five years of 17%. It, too, has an investment-grade balance sheet. The shares are off nearly 40% from their 2022 highs, but, given its tight regional focus, Rexford is probably only appropriate for more aggressive investors.
The winner?
Both Prologis and Rexford have strong businesses and solid operating histories. Either one seems like it would be a worthwhile buy, but only for the right types of investors: Prologis for more conservative types, with Rexford appropriate for those with higher risk tolerances. That said, neither is a high-return story, with both offering dividend yields of around 3%. The main attraction here is potential dividend growth.
