Real estate investment trusts remain an attractive asset class worth considering. They tend to retain their value relative to other investments, particularly during periods of market weakness. In addition, the low interest rate environment may persist, and many REITs offer attractive yields combined with potential capital gains.
Earlier this week we profiled Pure Multi-Family REIT LP (tickers RUF.UN and RUF.U, both on the TSX Venture Exchange), a small cap with large upside potential. Today, we feature another REIT, Milestone Apartments.
The REIT
Milestone Apartments has 61 multi-family garden-style properties in the United States. Management defines "garden-style" apartments as being typically smaller, perhaps two- to three-storey buildings with surface parking and conveniences such as swimming pools or tennis courts. Generally, these properties have lower capital spending requirements compared to high-rise complexes.
Milestone has a large portfolio position in Texas, with 35 properties representing 53 per cent of units in the portfolio. Other states where Milestone has a presence are Arizona, Colorado, Florida, Georgia, Missouri, Tennessee, Utah and North Carolina.
Earlier this month, the company announced solid second-quarter results. Funds from operations (FFO) came in at 27 cents (U.S.) per unit. What the company calls "same-store" (or same-property) net operating income increased 5.2 per cent year-over-year. Same-store average monthly rents increased 5.7 per cent year-over-year. Same-store occupancy was relatively steady at 95.1 per cent.
Management say they are focused on creating value through both organic growth with rental price increases combined high occupancy rates, and external growth by making acquisitions in new geographies and expanding its presence in existing regions. Milestone raised $125-million (Canadian) through an equity financing in the spring, giving management the financing required to fund near-term growth objectives.
Yield – with room to expand
This REIT pays unitholders a monthly distribution of 5.417 cents a unit, representing an annualized distribution of 65 cents a unit and equating to a yield of over 4 per cent. The adjusted funds from operations (AFFO) payout ratio was 58 per cent in the second quarter. The debt to gross book value ratio was 47.8 per cent.
Valuation
The REIT is trading at just over 12 times the 2016 consensus AFFO estimate, using an exchange rate of 1.3 for U.S. dollars to Canadian dollars. Its valuation is at a discount to peers such as Boardwalk REIT, InterRent REIT and Canadian Apartment Properties REIT. Over time, this discount may narrow.
Chart watch
Year-to-date, units of this REIT have had a stellar run, appreciating over 23 per cent but it has not been a straight line rally. Units started the year off in the low $12 range, advanced to the high $14 level in April, pulled back to the low $12 range in June, and the unit price is now just under $15.
The unit price has experienced a parabolic move, rising over 20 per cent in just six weeks on strong volumes. Technically, the units are overbought in the near-term with a relative strength reading (RSI) of 73. Generally, an RSI reading of 70 or above indicates an overbought condition.
There is technical support at $14.70, then at $14. I would not be surprised to see the unit price drift back down.
Analysts' recommendations
There are seven analysts that cover this REIT, and all seven have buy recommendations. One-year price targets range from $15.50 to $17.50, with the average one-year price target of $16.57, equating to a price return of over 9 per cent.
The consensus AFFO estimate is 86 cents (U.S.) per unit in 2015, expanding to 94 cents per unit in 2016.
The bottom line
Like Pure Multi, Milestone offers investors upside potential from its exposure to a strong U.S. rental market. However, there are key differences. One key difference, and a catalyst for units of Milestone, is the REIT's low AFFO payout ratio, giving the management team at Milestone the financial flexibility to raise its monthly distribution to unitholders down the road. Furthermore, this REIT is approaching the $1-billion (Canadian) market capitalization level. Its current market cap is just over $900-million. When it crosses the $1-billion mark, it may gain greater attention from investors and new coverage from analysts on the Street.
Two cautionary notes are the REIT's large exposure to the Houston economy, where the energy sector is of great importance, as well as the low Canadian dollar, which makes it more expensive to purchase U.S. properties. The low loonie also means the REIT's recent equity offering that raised $125-million in Canadian dollars will not go as far as it could have under more favourable foreign exchange rates.
That said, Milestone offers investors potential double-digit total returns.
Jennifer Dowty, CFA, Globe Investor's in-house equities analyst, writes exclusively for our subscribers at Inside the Market. E-mail any stock suggestions that you want profiled to jdowty@globeandmail.com