Over the last few weeks, interest sensitive stocks have slowly sold off. Recent indications from the U.S. Federal Reserve is that they may be ready to raise rates in early 2015, which is a little earlier than expected.
Naturally, pundits started cautioning investors on the dangers of holding these types of stocks during a rising interest rate environment. Real estate investment trusts ended up in the middle of the crosshairs, since many market observers see them as the most sensitive to an increase in rates. Besides, the sector is well owned these days, as other investments just couldn’t provide the level of income desired.
So now that rates are bound to go up, is it time for investors to exit the sector, en masse?
Not exactly. Remember, we’ve seen this movie before. Just last year, in fact.
In May, 2013, most of the REIT sector fell some 20% as consensus became clear that interest rates were set to head up. But after a few months of rates largely staying at the same level, the consensus changed. Interest rates were no longer heading up, so REIT prices recovered.
That’s it, with the exception of Dream Office REIT (TSX: D.UN), one of Canada’s largest owners of office property. The company owns 182 units and more than 24 million square feet of leasable area all across the country.
Dream encountered a few more problems than just interest rates. Primarily, it’s facing a bit of a glut in new supply coming online in Toronto and Calgary, which are home to approximately 60% of its portfolio. Because of this, occupancy rates have dipped slightly, from a little over 95% to right around 94%. It’s not a huge drop, but investors are concerned that it may be the beginning of a larger trend.
The company has taken steps to attempt to minimize the trend. Management has started to focus on attracting restaurants to rent some of that vacant space. Dream benefits in obvious ways, but the restaurant also gets the advantage of a built-in lunch crowd with plenty of disposable income, plus easily accessible transportation options for waitstaff and cooks.
The quality of the portfolio is the crux of the argument of why investors should be looking at Dream’s shares. Some of Canada’s most iconic office buildings — like the Telus Tower in Calgary, Scotia Plaza, and Adelaide Place in Toronto, and Enbridge Place in Edmonton — are housed in the company’s portfolio, and it boasts most of Canada’s top companies as tenants.
Is there any wonder why we Fools continue to recommend the company over buying rental property?
Thanks to the recent sell-off, investors who get into the stock now are getting rewarded with an 8% yield. That’s practically unheard of these days, usually only reserved for a company well known for being in danger of a dividend cut. No such danger exists for Dream. Even after dealing with this latest batch of weakness, the company still has a payout ratio in the 90% range. That’s about average for the sector.
Two forces have combined to bring down Dream Office REIT shares. Neither of them are that big of a deal for an investor looking for a secure income stream for the long term. If you plan to buy the company and enjoy its generous dividends for years to come, let these short-term trends be your friend. Buy them now, and tuck away Dream shares for the next decade. I think you’ll be happy you did.
