Real estate investment trusts, or REITs, are one of the most interest-rate-sensitive groups of stocks in the entire market. This is the primary reason that while the S&P 500 has rebounded by 46% since the end of 2022, the Vanguard Real Estate ETF (VNQ +0.37%) has only managed a 19% total return since then.
In simple terms, rising interest rates tend to put downward pressure on REITs. Not only are income-focused stocks less appealing when risk-free instruments like Treasury securities and CDs have higher yields, but real estate stocks tend to rely more on borrowed money than most other sectors, and higher interest rates mean more expensive borrowing costs.
Having said that, the Federal Reserve is finally expected to start cutting interest rates at its September meeting, and the median expectation is for a total of 2.25 percentage points in interest rate cuts between now and next September. This could create a big catalyst for REITs to outperform the market, and there are two in particular I consider worth buying this month.
A great business with lots of growth potential
Ryman Hospitality Properties (RHP +0.59%) has been one of the top-performing real estate stocks over the past couple of years, as its business has proven to be tremendously resilient in the wake of the COVID-19 pandemic.
NYSE: RHP
Key Data Points
Ryman is a REIT that invests in two different types of properties. It owns six large-scale hotels that are designed to accommodate group events like conferences and conventions. All five Gaylord hotels are owned by Ryman. In addition, Ryman owns a portfolio of entertainment assets, including iconic venues such as the Grand Ole Opry and Ryman Auditorium, as well as the Ole Red entertainment and dining chain.
Ryman's latest quarterly earnings report shows why the stock has done well. Its revenue was the highest it's ever been and grew 21.5% year-over-year. Operating income, average daily room rates, and adjusted EBITDA were also at all-time highs for the business. Plus, the company increased its guidance for full-year performance.
Despite the excellent results, Ryman trades for just 12 times its full-year FFO estimate -- that's funds from operations, the REIT equivalent of "earnings" -- and could be a big winner as the Federal Reserve lowers interest rates. The company has big investment plans to add value to its portfolio, and lower rates could mean better economics for the business, in addition to the upward pressure lower rates generally mean for REITs as investors move back to riskier assets.
Check out "The Monthly Dividend Company" before yields fall
Ever since the Fed started the current rate hike cycle in 2022, the REITs that have been beaten down the most have the most steady and reliable dividends, and Realty Income (O +1.12%) is a perfect example. Since the beginning of 2022, Realty Income has declined by 16%, which is 30 percentage points worse than the S&P 500. The stock currently yields about 5%.
NYSE: O
Key Data Points
It is important to note that the business itself is doing very well and the underperformance has been mainly due to the rising-rate environment. In the second quarter, Realty Income's adjusted FFO per share grew by 6% year-over-year, the company's portfolio of 15,450 net-leased properties is 98.8% leased, and even in a difficult environment, management continues to find ways to put money to work. Plus, Realty Income achieved a rent recapture rate of 105.7% on renewal leases.
Over the long run, Realty Income has been a fantastic investment. Since listing on the NYSE in 1994, the stock has produced a 13.5% annualized total return (even after the decline of the past couple of years), which means that a $10,000 investment 30 years ago would be worth nearly $447,000 today. The company has raised its dividend for 107 consecutive quarters. In fact, Realty Income is such a reliable dividend payer that it has a trademark on the phrase "The Monthly Dividend Company." With the Fed expected to start cutting interest rates very soon, now could be a great time to add this rock-solid REIT to your portfolio.
Short-term catalysts, but great long-term stocks
I own shares of both of these REITs, and plan to hold them for many years to come. While I think the expected falling-rate environment could provide an excellent tailwind for outperforming the market over the next few years, these are two well-run REITs with great economics and large growth opportunities that could produce strong return for years, or decades, in your portfolio.
