2023-05-02 08:05:00 ET
Summary
- Most REITs are heavily discounted.
- Even rapidly growing industrial REITs are now undervalued.
- Which is the best REIT to buy today? Prologis or EastGroup Properties?
Prologis ( PLD ) is the biggest industrial property landlord in the world and it is also one of the most popular REITs among individual investors. It performed incredibly well over the past decade and has gained a lot of supporters:
EastGroup Properties ( EGP ) is PLD's smaller brother. It is not small in size with its $7+ billion market cap, but it is still 16x smaller than that of PLD! But its smaller size has some advantages and just like PLD, EGP has also been a huge winner for investors:
But which one is the best REIT ( VNQ ) investment opportunity today?
I am bullish on both at today's valuations and give them a Strong Buy rating.
But if I had to buy one, it would be the smaller REIT: EastGroup Properties. It is actually one of our Top 5 Picks for 2023 at High Yield Landlord and we expect it to outperform PLD going forward because of one main reason:
Its portfolio.
Both REITs are priced at around the same valuation.
They both have strong balance sheets.
And they both have strong management teams with good track records.
But the differences are in their portfolio composition.
PLD is massive in size and so it has put together a large and well-diversified portfolio over the years with properties in nearly every state, Europe, Asia, and Latin America. Its assets under management are now approaching $200 billion! Owning such a diverse portfolio has advantages, but it also means that you will own properties in good, average, and bad markets:
EGP, on the other hand, has built a portfolio that's highly concentrated on four key factors:
- It focuses mainly on rapidly growing sunbelt markets like Texas and Florida.
- It focuses on urban properties with high barriers to entry.
- Most of its properties are smaller multi-tenant properties, which are less affected by the risk of oversupply.
- It has built most of its properties, resulting in higher property quality on average.
I think that this exact portfolio composition is better positioned for today's environment. Here are two reasons why:
Reason #1: Better positioned to profit from onshoring
Today, increasingly many companies are bringing back larger portions of their supply chains to the US in order to be closer to their end customer.
There are three main reasons for this.
- 1) The difference in cost is not as big anymore since labor cost has risen a lot in emerging countries and robotics/automation has also made manufacturing and distribution more efficient in developed countries.
- 2) The pandemic taught us that there are very significant indirect costs to having large portions of your supply chains far away from your end customer. You may not be able to access your stock when you need it the most, potentially putting the sustainability of your company at risk.
- 3) Finally, Russia's brutal invasion of Ukraine and China's threats against Taiwan has taught a painful lesson to many companies: dictatorships cannot be trusted. This explains why companies like McDonald's ( MCD ) made the choice to leave Russia, despite losing significant profits and investments behind.
So now increasingly many companies are bringing back supply chains from China, Eastern Europe, and elsewhere back to the States.
I think that this will result in significant demand growth for industrial space in the Sunbelt markets. Companies will seek to put their supply chains in states like Texas because they enjoy lower costs, fewer taxes, have lots of land available, and it is ideally positioned right in the middle of the US.
EGP's portfolio should benefit a lot because it is located in these rapidly growing markets and most of its properties are in urban infill areas where it is hard to build more properties.
PLD, on the other hand, is less concentrated on sunbelt markets. It also owns a lot of properties in more expensive and less business-friendly coastal markets. These markets could also benefit, but less in my opinion.
Coastal industrial markets like LA did really well over the past decades because the volume of goods coming from China was growing rapidly, but if more companies move their supply chains from China to Texas, Mexico, or elsewhere, then California's industrial market could suffer.
Reason #2: Better positioned in case of oversupply
I don't think that industrial REITs will suffer from overbuilding in 2023 and likely not even in 2024. I just recently attended the Citi Global Property Conference and most industrial REIT CEOs appear to expect strong same-property NOI growth to continue.
But eventually, we will face oversupply. That's inevitable.
The market goes through cycles and it has been a while since we faced oversupply in the industrial market. Today, there are lots of new property developments happening and we may be approaching a recession.
Which will suffer the most?
I think that it is PLD because most new property developments are large single-tenant industrial properties like Amazon ( AMZN ) or Walmart ( WMT ) such as those owned by PLD:
On the other hand, there are relatively few smaller multi-tenant properties being built in urban, high-barriers-to-entry markets and that's what EGP owns for the most part.
The rapid growth of EGP's sunbelt markets should also compensate for the growth in supply. So overall, I would expect EGP's portfolio to handle it better.
Bottom Line
Both are high-quality REITs, but I slightly prefer EGP's focused approach on smaller, modern multi-tenant properties in rapidly growing sunbelt markets.
PLD is a lot larger in size, but larger size does not equal higher returns.
On the contrary, EGP has actually done a lot better than PLD over multi-decade time periods and I would expect its outperformance to continue in the long run:
For further details see:
Prologis Vs. EastGroup Properties: Which Is The Best REIT To Buy Today?