Decades have passed since U.S. investors have had to worry about inflation. But with significant increases recently in the cost of labor and materials, you can expect upward price pressure for a while. Combine that with low interest rates, and you are losing buying power unless your investments grow quickly enough to stay ahead of inflation.
So defensive stocks are worth thinking about. One way to have built-in protection from inflation is with real-estate investment trusts. Greg Kuhl, co-manager of the Janus Henderson Global Real Estate Fund
named three areas within the real-estate sector he believes are especially appropriate right now.
The Janus Henderson Global Real Estate Fund is rated five stars (the highest ranking) by Morningstar, within the investment data firm’s Global Real Estate mutual fund category. It generally holds between 50 and 60 stocks. (Kuhl also co-manages the Janus Henderson U.S. Real Estate ETF
which was established in June to follow a similar strategy, limited to 20 domestic stocks.)
The case for REITs
During an interview, Kuhl, who is based in Chicago, said investors who allocate some of their money to real estate benefit from “dividends, diversification and defensive growth.”
Real-estate investment trusts in the U.S. are generally set up to be income-producing investments, but the Janus Henderson Global Real Estate Fund’s strategy is to maximize total return over the long term. (If you are interested in high current income from the real-estate sector, this article includes a list of REIT stocks with high yields that are well-supported by cash flow.)
The fund’s quoted 30-day SEC yield was 1.42% as of July 31. That is low, but it is in line with the weighted dividend yield of 1.36% for the S&P 500
according to FactSet, and a yield of 1.24% for 10-year U.S. Treasury notes
The Janus Henderson Global Real Estate Fund’s annual expenses are 1.03% of assets under management, while the new Janus Henderson U.S. Real Estate ETF’s expense ratio is 0.65%.
The fund has outperformed its Morningstar category and the S&P 500 real-estate industry group by wide margins. But it has underperformed the S&P 500. Here’s a comparison of average returns for the fund, its Morningstar category, the S&P 500 REIT industry group and the SPDR S&P 500 ETF
|Average return — 3 years||Average return — 5 years||Average return — 10 years|
|Janus Henderson Global Real Estate Fund — I Shares||13.4%||11.2%||11.2%|
|Morningstar Global Real Estate category||8.5%||6.5%||8.2%|
|S&P 500 real-estate industry group||11.8%||7.5%||9.6%|
|SPDR S&P 500 ETF Trust||17.7%||17.2%||16.9%|
|Sources: Morningstar, FactSet|
For diversification, weighting some of your portfolio toward REITs can move you a bit away from the tech-related concentration of an S&P 500 index fund that is weighted by market capitalization. Looking at the SPDR S&P 500 ETF, the five largest holdings (Apple Inc.
and Alphabet Inc.
) together comprise 22% of the portfolio.
The real-estate sector makes up only 2.6% of the S&P 500’s market capitalization, according to FactSet. So exposure to REITs reduces concentration risk, and a global approach goes even further, because different markets go through different cycles.
Defensive growth may be the most attractive attribute of the REIT space. “You will not get tech-stock-growth from these companies,” Kuhl said. “What you should expect from real estate is mid-to-high single-digit earnings growth, driven by contractual rent increases in the leases — inflation or better.”
So tenants tend to pay more each year. Then there is an added bonus for landlords in a market such as this one. “You get mark-to-market,” Kuhl said, “if a lease ends and the owner has pricing power, the new lease might be 15% to 20% higher. There is quite a bit of growth there. “
REITs can also boost growth by acquiring and developing land.
Three REIT types for inflationary times
Kuhl pointed to three REIT subsectors that are attractive now for “nice returns with lower volatility” and gave one stock as an example for each.
This category includes warehouses and sorting facilities used by retailers and transportation companies. Prologis Inc.
is the largest holding of the Janus Henderson Global Real Estate Fund and the Janus Henderson U.S. Real Estate ETF.
Prologis owns logistics facilities in 19 countries. The company ranked high in this quality scoring of REITs based on a framework provided by Frank Haggerty, a senior portfolio manager at Duff & Phelps Investment Management in Chicago.
The COVID-19 crisis has fed demand for housing as some people have moved away from big cities. But household formation has also been a long-term driver of demand as construction in the U.S. hasn’t kept pace.
Kuhl said that years ago, the idea of a national company handling single-family rentals, including leasing homes, showing them to potential renters and maintaining them, was treated with skepticism by some professional investors. But Invitation Homes Inc.
has “done a great job operationally,” he said, adding that it seeks to cater to younger families by owning and renting out houses in highly rated school districts.
This category includes companies that operate manufactured housing communities. These aren’t mobile homes but rather permanent structures built at relatively low cost. Most of the communities are age-restricted and in areas that are desirable to younger retirees, such as Florida, Arizona and California.
The residents own their homes, but not the land under them. They pay a monthly fee that includes rent for the land as well as well as maintenance and other services. The contracts have built-in inflation protection for the operators.
“These are high-quality communities with lots of amenities,” Kuhl said. “People are there for the atmosphere and socialization.”
He named Sun Communities Inc.
as an example of a specialty residential operator that has purchased many communities and expanded them. “They have done really well using excess land to build out new street grids, infrastructure and new amenities,” he said. This is the third-largest holding of the Janus Henderson Global Real Estate Fund.
Here’s a list of the 10 largest holdings of the Janus Henderson Global Real Estate Fund as of July 31, plus Invitation Homes, a large holding but outside the largest 10:
|Company||Total return — 2021||Total Return — 5 Years||Share “buy” ratings||Closing price — Aug. 18||Consensus price target||implied 12-month upside potential||Dividend Yield|
Alexandria Real Estate Equities Inc.
Sun Communities Inc.
VICI Properties Inc.
Duke Realty Corp.
Equity LifeStyle Properties Inc.
Essex Property Trust Inc.
Americold Realty Trust
Mitsui Fudosan Co. Ltd.
Invitation Homes Inc.
You can click on the tickers for more about each company, including its business profile.
The table includes current dividend yields, although you can also see from the total return column that a higher payout doesn’t necessarily correlate to better overall investment performance.
All but two of the stocks have majority “buy” ratings among analysts polled by FactSet, even if the price target aren’t very high relative to current prices. That underlines that in this market REITs are highly valued and only appropriate for patient long-term investors.
If you see any stocks of interest here (or anywhere else, for that matter), you should do your own research and form your own opinion about a company’s business strategy and viability for the next decade or two.