The market is falling – I’m adding these heavy investments to real assets

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The market is falling – I’m adding these heavy investments to real assets


Bear market

DNY59 / E + via Getty Images

Last week I explained that I was adapting my investment strategy to take into account the war in Ukraine.

Historically, recessions have typically followed soaring oil prices, and with oil at $ 120 a barrel, I think the risk of a recession is increasing considerably. This is also what the nearly inverted yield curve tells us:

10-Year Treasury - The yield curve is reversing

10-Year Treasury – The yield curve is reversing (Federal Reserve)

Unsurprisingly, many stocks are losing value. The S&P 500 (SPY) fell “only” 12%, but other market segments fell much more.

But before you rush to buy the dips, you need to recognize that the risks have increased substantially and what you were buying a month ago may no longer make sense.

In Part 1 of this series, I will highlight three investments that I have amassed since the beginning of the war. These are:

I am accumulating these investments because I think they are particularly interesting in light of recent events.

Agricultural land benefits from rising crop prices. Some European REITs are now heavily discounted, despite being well protected. And cell tower REITs like Crown Castle (CCI) have declined along with other stocks, but their business model is recession-proof and set for predictable growth no matter what’s happening in Eastern Europe.

The main starting point here is that I am mainly buying real heavy investments in assets that are essential to our company. Those today are attractively priced, offer inflation protection, and have historically outperformed during most recessions:

REIT vs.  S&P 500 during rising rate cycles

REIT vs. S&P 500 during rising rate cycles (Cohen & Manzi)

In today’s Part 2 follow-up article, I will highlight three additional heavy investments in real assets that I am currently amassing:

Investment no. 1: essential energy infrastructures

One of the biggest downsides of this crisis is that Russia apparently cannot be trusted and, as a result, most countries are now rethinking their dependence on Russian energy.

The United States has banned all Russian oil, gas and coal. The UK banned all Russian oil this year. The European Union has pledged to cut Russian gas imports by two thirds by the end of the year.

As we are removing or limiting a major energy producer and exporter from the global market, we are increasing profits for other countries and increasing the value of their energy infrastructure.

Energy conduit (Enbridge)

Energy conduit (Enbridge)

The US energy infrastructure is becoming particularly important in meeting the energy needs of the Western world. With this, the value of pipelines owned by MLPs (AMLPs) and other midstream companies is increasing and their feared risk of obsolescence is also decreasing.

Price of the AMLP ETF
YCharts data

As you can see, these companies have already risen in value, but I think they should have risen even more when you consider the long-term implications of this crisis.

Right now, you can still buy midstream blue-chip companies like Enbridge (ENB) with a yield of more than 6%. It is very interesting when you consider that this is a BBB + rated company with defensive assets and a clear and predictable path towards annual growth of around 5%.

From yield and growth alone, you can expect double-digit annual returns, and it also provides hedging to your portfolio should the war get worse.

The disruption caused by the war reduces the risks for ENB and increases the value and importance of its infrastructure.

Investment no. 2: Triple net ownership / REITs

A triple net lease, also known as “NNN”, is a type of real estate investment. Typically, these are self-contained, single-tenant, service-oriented retail properties such as Walgreens (WBA) drugstores, Dollar General (DG) grocery stores, or Taco Bell (YUM) restaurants.

Taco bell net real estate lease (National Retail Properties)

Nice taco property for net lease (National retail properties)

They differ from traditional real estate investments in that the lease agreement is structured in such a way as to generate highly consistent and predictable cash flows for the lessor, even during recessions.

  • The duration of the lease is typically 15 years.

  • The rent is pre-agreed for the entire duration with automatic rent increases.

  • The tenant is responsible for all property expenses, protecting the landlord from cost inflation.

Of course, a single property can still present risks, but if you have a well-diversified net rental portfolio, you can earn a defensive cash flow that remains intact even during times of crisis. The best-known net rental REIT, Realty Income (O), has shown that by increasing its dividend for more than 20 consecutive years, including the dot-com crash, the great financial crisis and the pandemic:

Dividend Record (Real Estate Income)

Dividend record (Real estate income)

One might think that such defensive assets are priced higher during times of uncertainty. They generally are. But today, the net rental sector of the REIT market is at a disadvantage due to fears of inflation, and as a result, many of these companies are heavily undervalued.

What the market seems to have missed is that many of these REITs even have CPI-based rental escalations in their leases, and therefore, the fears are unwarranted. VICI Properties (VICI), for example, has CPI-related rent increases on most of its leases and because its tenants pay the property costs, it is very well protected.

Despite the lower risk profile, net lease REITs have historically generated annual returns of 12% -15%, all while paying a 4% -6% dividend yield. We think they will do even better over the next few years as their valuation multiples expand, which explains why we put so much into them at High Yield Landlord:

Net allocation of leases in our main portfolio

Net allocation of leases in our main portfolio (High Yield Tenant)

War or not, net leased REITs should do well over the next few years.

Investment no. 3: Multi-family Sunbelt

Last but not least, you can see from our graph above that we also invest heavily in apartment communities and other residential properties such as student housing and manufacturing houses.

Housing is a basic necessity needed regardless of whether the economy is booming or in crisis, and some subsegments of the housing market are particularly resilient to recessions.

Ariza Plum Creek, Kyle, Texas – Property owned by BSR REIT:

Texas Class B Apartment Community (BSR REIT)

Class B apartment community in Texas (BSR REIT)

Our favorite properties are affordable Class B apartment communities located in fast-growing markets like Dallas or Austin, Texas.

Demand is growing faster than supply in these markets and, as a result, rents are growing at a very rapid pace. Additionally, rents on these properties remain resilient because people are hardly able to find cheaper options, and many residents of more expensive Class A properties decide to downgrade to Class B communities to save on rent.

Resistance to recession of Class B apartment communities

Resistance to recession of Class B apartment communities (Independent Real Estate Trust)

One company we particularly like is BSR REIT (OTCPK: BSRTF). Mainly owns Class B apartment communities in Texan markets. He recently reported full year results and noted that his rents were growing 15% more than the previous year and his NAV per share had increased 61% in just one year.

Since we first invested in the company less than a year ago, we have already achieved a return> 80% and we expect higher earnings in 2022:

BSR REIT return
YCharts data

We expect the rapid growth in its net asset value to continue into 2022 and, while you wait for the upside, earn a monthly dividend yield of around 3%. It has recently been increased by 4% which could be another sign that the NAV continues to rise.

Bottom line

The risk of a recession increases day by day and now is the time to change your investment strategy. What has worked well in recent years is unlikely to work well in the future.

We have a great war in Europe and it has serious humanitarian and economic consequences for the whole world.

I’m doubling down on real assets like essential energy infrastructure, triple grid rental properties, farmland, and apartment communities because I think these investments will outperform in the future. They are reasonably priced, have inflation protection, and generate a steady cash flow from rent payments.

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