Investing in super-high-yielding securities can be a dangerous sport for the inexperienced investor. Unfortunately, many retirees with limited nest eggs look to the double-digit yielders for their income fix without realizing the magnitude of risks they’re taking on.
You’ve heard that higher rewards come with higher risks. It’s the top piece of advice that financial advisors serve up regularly. While true, many beginner investors are quick to associate higher risk as some sort of poison that doesn’t justify the additional rewards.
Some investors see risk as something that’s to be avoided at all costs, when in fact risk should be sought out by those who have the ability and willingness to manage it.
Investment risks can be mitigated, and risky stocks can tilt the risk/reward trade-off in one’s favour relative to lower-risk or risk-free alternatives. You’ve just got to put in the homework and have the patience (and stomach) to deal with stocks that don’t make upward moves immediately.
A HOT REIT that’s gone cold
Consider shares of American Hotel Properties REIT (TSX:HOT.UN) or AHIP for short, a security that currently sports a lucrative 12.2% distribution yield, making it one of the highest yielding names on the TSX Index.
The generous distribution is undoubtedly the main attraction to AHIP’s shares. While the associated risk that come with the higher potential total returns (distributions and capital gains) aren’t suitable for most retirees, they are ideal for younger investors who are no strangers to risk or volatility.
For those with the willingness and ability to take risk, AHIP is a compelling play despite its seemingly unsustainable distribution. Whenever you’ve got a double-digit yield, you can’t expect its sustainability to be guaranteed.
In the case of AHIP’s distribution, however, it’s the safest double-digit yielder you’re going to find given the recent improvements going on behind the scenes.
The company recently announced cash distributions of US$0.054 for the month of February, which works out to around US$0.65 on an annualized basis.
The payout is undoubtedly stretched to the limit, but with an improvement plan showing signs of promise, I do see a scenario where the payout ratio will fall such that the massive commitment of a distribution will be more sustainable over time.
Prior projects in the property improvement plan (PIP) came under budget and served as great news to a firm that’s in a very tight financial situation.
The plan could give net operating income (NOI) a nice jolt without relying on exogenous factors such as a significant resurgence in the U.S. economy.
Foolish takeaway
The business of hotels can be fickle relative to most other real estate sub-industries. Should the American economy get back into high gear while AHIP enjoys the fruit of its recent PIP, investors could get substantial capital appreciation alongside their outsized distribution payments.
Is it worth locking-in the massive yield at this juncture?
That depends if you believe in AHIP’s turnaround plan and if you believe that a recession will hit soon. In any case, AHIP is a high-risk/high-reward play that could pay big dividends to those willing to go against the grain.
