At a time of weak equity markets and ultra-low interest rates, high investor demand for dividend yield can be met by income flows from European listed property companies – particularly REITs.
A key feature of real estate investments is their ability, if managed and structured correctly, to generate stable income returns. Since 1999, European property companies’ annual compounded dividend growth stands at 3.7%, well above a 2.1% annual compounded inflation rate.
Dividend growth will be more volatile compared with inflation due to lease renegotiations next to agreed annual increases. But the data suggests that in the long-term, it will outperform inflation.
Year-on-year dividend growth for listed property companies and REITs fell in the recent downturn, yet the majority of companies did pay out dividends reflecting their healthy cash flows.
Year-on-year dividend falls for listed property companies bottomed out at around -20.0%, compared with -11.8% for REITs; general equities showed a maximum 25% decline. Since then, dividend distributions have grown again, showing REITs’ strong long-term income fundamentals.
REITs generally pay higher dividends than non- REITs, as an obligation to distribute the majority (up to 100%) of earnings to shareholders is built into REIT regimes. Most REITs offer stable income growth through active asset management and asset rotation. This may lower their organic growth potential, as retained earnings are limited.
But recent equity raisings, bond issues and new credit lines have given most REITs adequate firepower, while asset-for-shares deals can be a good way to expand their business. Besides, more countries are starting to allow stock dividends, which means REITs can retain earnings.
REITs also tend to trade at higher yields than European government bonds and general equities, while also outpacing eurozone inflation (see graph). It can be hard for investors to access high- quality assets at high yields, as was seen in the latest downturn, when the direct property market was locked, as the bid/ask spread was too high.
Since then, the expected rush of distressed sales for good-quality assets has not materialised. But REITs offer investors access to prime assets at attractive entry levels. Their high liquidity compared with other real estate investment vehicles, even in the downturn, allowed investors to gain exposure to high-quality properties at discounts to NAV and attractive yields. These relatively high yields caught investors’ attention when interest rates and bond yields remained low and investors had to seek out better income-pro-ducing investments. Lower economic growth prospects also led investors to refocus on income.
REITs have the distinct characteristic of more predictable dividends than other vehicles, due to tenant agreements and reporting standards. They tend to own prime assets that offer long-term, reliable income, and thus healthy cash flows. As pension funds struggle to cover liabilities due to low interest rates and investors see weak returns from investment markets, the attractiveness of European property dividend yields, and REITs in particular, has rarely been higher.