Realty Income (O -0.17%) shares have fallen during the past year. Concerns about rising interest rates have weighed on the stock as borrowing costs increase and property values stagnate in some markets. Additionally, the Federal Reserve's plan to delay rate cuts likely prolongs the weakness in the company's stock price.
Nonetheless, the situation may have become a benefit to long-term investors, particularly those who seek to buy more shares. Here's why they should view it as positive.
The state of Realty Income
Indeed, investors need to remember that Realty Income is a real estate investment trust (REIT). Thus, lower interest rates tend to increase profit, and that can increase the stock price and required dividend. From that standpoint, one can see why Realty Income struggles to gain traction as the Fed continues to delay the cut in the federal funds rate it hinted was coming.
This anxiety may have been made worse by its most recent source of funding -- share issuance. One year ago, its share count outstanding stood at about 660 million. Today, it is more than 860 million. Realty Income issued those shares to fund its takeover of Spirit Realty Capital, a competitor with just over 2,000 properties.
However, succeeding at investing means determining the difference between long-term and short-term setbacks. In Realty Income's case, it is likely the latter, assuming it is a setback at all.
The company owns about 15,500 net-leased single-tenant properties (including the properties from the Spirit merger). A net lease means the tenant pays property taxes, maintenance, and insurance, which should increase company profits.
Moreover, its tenants are often the most familiar brands in the country, with Walmart, CVS, and Home Depot among its renters. Since these businesses depend on foot traffic, Realty Income fulfills a need for space that's unlikely to disappear, and its roughly 99% lease rate probably confirms that demand.
The case for Realty Income now
Additionally, the doubts that sparked recent sell-offs in the stock look increasingly like a buying opportunity.
For one, the company reported funds from operations (FFO) income (a measure of a REIT's free cash flow) of $2.8 billion in 2023, or $4.07 per diluted share. That takes the valuation to a price-to-FFO ratio of less than 13, indicating the stock has become inexpensive.
Furthermore, owning this stock brings monthly dividends, which amount to around $3.08 per share yearly. This is a level that the company's aforementioned FFO income can cover. Also, at today's prices, that amounts to a dividend yield of 5.9%, more than quadruple the average dividend yield of 1.4% for the S&P 500 index.
That yield should rise over time for investors who buy now. Realty Income's payout has risen at least once a year since the company started paying dividends in 1994. During the past 12 months, the company hiked the dividend three times, showing that merger costs and rising interest rates have not interrupted Realty Income's prosperity.
However, investors should remember that once the stock price begins to rise, the dividend yield will steadily fall. Hence, if looking to maximize dividend returns, income investors should probably buy before the Fed starts to lower interest rates.
Consider Realty Income
Higher interest rates give income investors an excellent opportunity to add Realty Income shares. Admittedly, the stock is down for the year, and the rising payments and uncertain prospects for property price growth usually do not inspire REIT stock investors.
Nonetheless, the company has shown it can add properties in a rising rate environment. Even though the Spirit Realty acquisition was costly, the income from its 2,000 properties should help boost profitability over time.
Moreover, it should also keep its dividend growing despite the 5.9% cash yield new investors earn on the payout. This payout makes Realty Income advantageous to income investors, who can not only earn a high cash return but also benefit from the growth of the dividend and, eventually, the stock price over time.
