ATAX - 2 Coiled-Spring Dividends Ready To Soar

Summary

• Outside forces can compress a spring, or cause it to unleash pent-up energy.
• Inflation and rising rates have been supplying large amounts of potential energy to various income investments - fueling their dividends.
• America First Multifamily and W. P. Carey are set to see big dividend payouts in the coming quarters.

Co-produced with Treading Softly.

When I was in school, we learned about ways to store energy, or rather, how to store potential energy. While I did not grow up to become an engineer or scientist, I still remember and recognize that one way to store energy is in compressed springs.

As you apply pressure to the spring, it stores that energy until the spring is allowed to expand, expelling it.

2022 has hit many portfolios and companies very hard. We've seen billions of dollars' worth of "value" vanish from some of the biggest names in the market. We must ask ourselves if these are coils being compressed and expected to spring higher or coils that had sprung returning to their proper neutral size.

When it comes to income investing, we can often see strong companies sell off. Sometimes it is over fears of their ability to pay an expected dividend. Other times, their prices are depressed by market pressures, even when conditions are favorable for a dividend raise.

Changing interest rates and high inflation can have a complex impact on the real estate market. The stock market often responds to complexity with fear. These factors have caused two excellent income investment opportunities to see their ability to pay large dividends increase, not decrease. The dividends are set to be hiked and grow from here, yet the market has put pressure on their prices, keeping them low.

Even as market panic is compressing the spring, there is major potential to see these companies pay out higher dividends. These companies are like coiled springs, with significant potential to explode upwards, with the dividends serving as the fuel, and the market keeping the downward pressure on the price.

Let's dive in.

Pick #1: ATAX - Yield 8.1%

America First Multifamily Investors, L.P. ( ATAX ) recently reported Q3 earnings, with CAD (Cash Available for Distribution) of $0.53, easily covering their $0.36 regular distribution. ATAX paid a $0.20 supplement with its October distribution and expects to pay another supplement for Q4 as well.

Year-to-date, ATAX has produced $2.25/unit in CAD, and paid out $1.457/unit/ Historically, ATAX has aimed to distribute 100% of CAD. It looks like they will fall a bit short this year, but we can expect another supplemental distribution that will be as large or larger as the last one.

ATAX makes the bulk of its earnings from two main businesses. It buys MRBs (mortgage revenue bonds) and it invests in the construction of new apartments through its "Vantage" Joint Venture.

MRBs/GILs

MRBs and GILs (government issuer loans) are issued by state housing agencies, usually to apartments with an affordable housing component. For investors, a major benefit of MRBs is that the interest is Federal tax exempt – a benefit that is passed along to investors through the partnership structure. ATAX primarily profits from the payment of interest and collects the principal at maturity for reinvestment. Throughout the pandemic, ATAX's residential MRB portfolio continued to perform without any significant deferrals or other concessions.

ATAX owned one commercial MRB, that ended up in bankruptcy court a few years ago. In July, that property was sold, and ATAX will recover $4.6 million, realizing a loss of $5.7 million. This loss was already recorded under GAAP earnings but was recognized in CAD for Q3. Without this one-time impact, CAD would have been approximately $0.25 higher in Q3.

Like all debt, MRBs have declined in price, and new MRBs being issued today have higher yields.

On the surface, ATAX's MRB portfolio is positioned to do better in a declining rate environment. ATAX has about 23% of its portfolio which is fixed-rate assets and leveraged with variable-rate debt. Source

As a result of this, ATAX's interest rate sensitivity table shows a 200 bps increase in interest rates would be a $2.46 million headwind to annual earnings. Let's have a look at the Interest Rate Sensitivity Analysis:

That works out to be about $0.11/unit annually. This is a minor headwind in the face of ATAX's earnings growth. If/when interest rates start falling again, this would become a tailwind. In the meantime, new MRBs acquired by ATAX are at higher spreads and higher yields than their existing portfolio. This will grow revenues today and will dramatically increase earnings when interest rates change direction.

Vantage Properties

ATAX's "Vantage" properties have been a significant source of gains for 2022. ATAX invests in the construction of new apartments. Their partners build the apartments, lease them up and then sell them for a gain as a stabilized apartment property.

ATAX collects some earnings through rent during the lease-up process, but the real gain is when the property is sold, usually within a year of occupancy exceeding 90%. (Source: ATAX 10-Q .)

ATAX sold three properties in 2021 and three more in 2022. They currently have three properties with occupancy over 90% that are likely to be sold within the next year. Another five properties are under construction, and a sixth is in the planning stages. This investment strategy has produced large gains for ATAX, however, the timing can be lumpy. ATAX has been increasing the size of this portfolio, which will allow for sales to occur more frequently.

We expect that ATAX will continue to use "supplemental" distributions to payout excess gains from this strategy since the timing and size of the gains are uncertain until properties are sold.

ATAX's earnings for 2022 have already set an annual record for them. ATAX is firing on all cylinders and is growing its Vantage strategy. When interest rates turn around and start to decline, then ATAX's MRB business will benefit from rising loan prices. Combined, this is a case where two very different business strategies work together to provide a superior return and lower risk than either strategy on its own. We are happy to keep buying shares at current prices.

Note: ATAX issues a Schedule K-1 at tax time.

Pick #2: WPC - Yield 5.3%

W. P. Carey Inc. ( WPC ) demonstrated the power of the "triple-net" lease, hiking 2022 guidance slightly to $5.25-$5.31 AFFO. The best thing about the triple net lease is that the tenant is responsible for paying most property-level costs. Property level costs also happen to be the ones that are most exposed to inflation.

Meanwhile, inflation causes rent to grow. For most of the 2010s, rent grew in the 1-2% range. In Q3, rent grew at a rate of 3.4%. ( Source: Investor Presentation Q3 . )

With inflation remaining high, WPC will continue to see rent growth accelerate. The best part is even when inflation slows back down to 2% or less, future rent growth will be based on the already elevated rent. So rent hikes today will continue to benefit WPC for several years, even when the pace slows.

So on average, WPC's tenants will feel the impact of today's rent hikes for the next 10.9 years.

We see many investors saying that REITs should be avoided because rising interest rates are "bad" for their business model. Interest is indeed the largest expense for most REITs, including WPC. Rising interest rates will eventually increase that expense.

Rising rent is occurring right now. WPC is getting that benefit immediately and will see even more in the coming years. What about interest expense? WPC primarily uses fixed-rate bonds and fixed-rate mortgages for most of its debt. This means that interest expense won't rise until WPC refinances, which isn't happening today.

WPC only has 6.2% of its debt maturing in 2022 and 2023. Note that the debt maturing is also its highest-interest debt already.

WPC has no large debt maturities until 2024. What will interest rates be in 2024? 2025? 2026? Nobody has a clue. So WPC is getting rent increases right now, but the headwind of refinancing at higher rates won't even start until 2024, and that is only a possible headwind. If interest rates are still high in a few years, that means that inflation is likely still high, and it also means that yields on new real estate investments would be higher, both benefits for WPC.

The market started worrying about the impact of rising rates on REITs entirely too early. It focused on the risks but not on the offsetting inflationary tailwind that has caused the Fed to start hiking rates in the first place.

WPC is surprising the market with strong results this year, which will be 4.4%-5.4% higher than in 2021 on a per/share basis. Next year, we expect WPC's AFFO growth will be even higher, and the dividend will grow with it.

Conclusion

WPC and ATAX are both excellent real estate-focused companies that can and will be paying their shareholders large distributions in the near future. WPC is expected to continue to grow its dividends at a more rapid speed. ATAX is flush with cash to pay its unitholders and will continue to pay out large supplemental distributions.

As an income investor, there are times when outside forces can help drive higher income based solely on how the companies are positioned in the economy and market. ATAX and WPC are two companies positioned to benefit from the current environment.

With Thanksgiving on the way, I want you to have a retirement that is low-stress and high-income. Investment opportunities like these can help make that a reality. Then you can be like thousands of our High Dividend Opportunities members who can list various income investments as reasons they are thankful while enjoying a meal that dividends paid for.

That sounds like a goal worth working towards. That's the benefit of income investing.

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