WPC - Sell Alert: 2 REITs Getting Risky

• The REIT market is very volatile at the moment.
• This has created some opportunities for us to consolidate capital.
• We highlight 2 REITs that we sold recently.

Generally, we are accumulating REITs ( VNQ ) at the moment.

In fact, I would even say that we are accumulating them aggressively at the current prices. We have posted 8 Buy Alerts at High Yield Landlord over the past 2 months and we will continue to buy the dips as long as prices remain this compelling.

REITs are down about 25% on average since the beginning of the year, and many of our favorite opportunities now trade at their lowest valuations in years.

But that does not mean that we aren't selling anything. Recently, we have sold a few REIT holdings that held up better than the rest and used the proceeds to reinvest in better opportunities.

In what follows, we highlight two such examples:

American Campus Communities

We first invested in American Campus Communities, Inc. ( ACC ) on the 23rd of March, 2020, after it had collapsed due to pandemic fears. Back then, it was a very unpopular investment because student housing was suffering great pain as schools were closing down and tenants went missing.

But the market had missed that ACC had a fortress balance sheet and the crisis was only temporary in nature.

Shortly after, students returned to class, cap rates began to compress, and ACC's value surged to new all-time highs.

Then came a buy-out offer from no other than Blackstone Inc. ( BX ). They offered to buy out ACC for $13 billion, tripling our money since our first purchase two years ago:

This concludes our investment because ACC has now reached our fair-value target and there isn't much arbitrage profit left. Moreover, ACC has agreed to suspend the dividend, effective immediately, so you are not even getting paid to wait for the deal to close.

Meanwhile, many of its close peers have recently become much more opportunistic.

As an example, blue-chip apartment REIT, AvalonBay Communities, Inc. ( AVB ) is down heavily over the past few months as it dropped with the rest of the market. ACC escaped this sell-off only because of Blackstone's expected buyout:

This performance disparity prompted Jonathan Litt, Founder of Land & Buildings (a major REIT activist firm) to make the following tweet :

"Blue-chip apartment REIT AvalonBay is down 19% YTD, trading at a 5% implied cap rate, a valuation last seen in 2020. With 15%-plus growth in '22, shares look like a bargain. Consider Blackstone bought student housing REIT last month for a 4% cap ($13B) with lower growth prospects."

This is especially interesting since Land & Building was the activist investor that pushed ACC to sell itself to Blackstone.

They are now investing in AvalonBay and appear to be making the same argument: AvalonBay is underpriced by the public market and, therefore, it may need to consider strategic alternatives to unlock value for its shareholders.

For this reason, we sold ACC. It is now undervalued relative to many of its peers in the residential REIT sector. Some of these peers are safer, have more growth, and trade at lower valuations.

While I expect the deal to close, there is also the risk that Blackstone could drop the ACC deal to pursue other opportunities after the recent sell-off, and the arbitrage profit just isn't worth the risk when you can buy peers at steep discounts to fair value.

W. P. Carey

Over the past year, our largest position in the Retirement Portfolio has been W. P. Carey Inc. ( WPC ), representing 12% of the Portfolio. We built such a large position because the company offered great value, a high yield, and had several catalysts to unlock value already in the immediate term.

In hindsight, we are glad that we built such a large position because WPC was one of the best performers year-to-date. It completely escaped the recent sell-off, leading to significant outperformance:

But as a result of this outperformance, WPC is not as attractive anymore, relatively speaking. Many other REITs have dropped by 30% or even 40% and now offer better value than WPC.

To give you an example, take a look at the performance disparity between WPC and Alexandria Real Estate ( ARE ), another REIT that we have been accumulating lately:

We think that ARE's business is even more resilient than that of WPC to inflation and recessions, and yet, it is now much more opportunistic.

WPC's management has done a great job at reminding the market that it has CPI adjustments in its leases, which should protect it from inflation, but most of those are actually capped, and therefore, ARE's fixed annual increases of 3% are not materially different from WPC's rent increases. I would argue that ARE offers even better inflation protection because it has much shorter leases and its rents are ~30% below market, offering rapid organic growth prospects as leases expire.

Therefore, I suspect that some of WPC's recent strengths may be unjustified, or put better, ARE's recent weakness is unwarranted. WPC did some great PR around the inflation-protection and it appears to have helped its share price, but there are many other REITs that offer similar or better inflation protection and they are now a lot cheaper.

Therefore, we recently sold half of our position to fund other purchases. To be clear, we remain bullish on WPC, but it is not our Top Pick anymore and, therefore, it does not deserve to be our largest holding. We expect it to do well in the long run, but we would not be surprised if it underperformed in the near term as we experience some reversion to the mean.

Bottom Line

A major contributing factor to our historic outperformance of the broader REIT market has been the active management of our portfolio.

We regularly sell holdings that have reached fair value and reinvest the proceeds into better opportunities to optimize the risk-to-reward of our portfolio.

Recently, we have had many such opportunities as the REIT became more volatile and less efficient.

For further details see: