Welcome to the 2CHYP quarterly analytics. Each quarter we analyze our holdings both at a portfolio level and at a company level.
PDF link: 2chyp-4q-portfolio-analytics
For information and analysis on each company within the portfolio, click the links below to open 2 page profiles. Each profile contains our price target, company information and an elevator thesis.
Armada Hoffler (AHH)
PDF: ahh-company-profile-4q16 (AHH) AHH 9.19 -0.29 -3.06%
Armada Hoffler (AHH) is the same company it has been for years, but it is finally getting recognized by the market. As of November 30th, AHH is in the RMZ, a move that has made it mainstream and acceptable to own. While most REITs attempt to diversify their portfolios geographically, AHH concentrates primarily in the Virginia Beach area and has accumulated a powerful market share. It leverages this positioning to extract extra value from its properties and has recently expanded its competitive advantage through purchases of properties in the immediate vicinity of City Center. This is the best real estate in the MSA and commands rents that fit that title. With ownership of adjoining land parcels AHH can develop additional properties through its proprietary development arm at a highly accretive cap rate. We at 2nd Market Capital are active traders who frequently flip stocks, but AHH is one of those stocks that we have felt comfortable holding for an extended period of time.
Brixmor Property Group (BRX)
PDF: brx-company-profile-4q16 (BRX) BRX 11.81 -0.44 -3.59%
Brixmor (BRX) is one of our smaller positions at the moment as it serves more as the anchor of the potfolio rather than the driver of outperformance. It is investment grade and has a large diversified portfolio protected by the grocery anchored nature of its shopping centers which reduces sensitivity to both e-commerce and the macro economy as these will tend to drive foot traffic at a constant pace in any environment. Beyond the stability, BRX has some upside to its SSNOI as most of its leases remain well below market. Growth will not be explosive, but we anticipate mid to high single digit FFO/share growth for the next 3 years. Thus, if the multiple remains the same, we anticipate 8%-10% total return from BRX annually. Solid, but nothing flashy.
CBL & Associates (CBL)
PDF: cbl-company-profile-4q16 (CBL) CBL 0.25 -0.01 -3.35%
As of 3Q16 our thesis on CBL was as follows: CBL and Associates (CBL) is a good company trading at an extremely cheap valuation due to secular headwinds affecting retail. There is no question that Amazon is hurting brick and mortar retail, but the extent of it seems greatly exaggerated to me. At its current market price, there is an implied demise of CBL in which tenants vacate without replacement. This seems overly pessimistic and I believe the bears are missing the fungibility of mall space. While they will be unlikely to replace a J.C. Penney with another apparel type store as nearly all apparel is hurting with the barebones pricing and excessive competition, CBL has the optionality to put in some restaurants or entertainment destinations. These sorts of businesses pay more rent per square foot than a big box store and they are also resistant to Amazon because the customer must be physically present to enjoy fresh food or a big screen movie. The plausibility of this sort of tenant replacement is backed up by the facts. Even as retailers announce massive store closures CBL has gained SSNOI and FFO/share. Retenanting efforts have largely been successful and in places where they are not, CBL has divested of the mall. This is a flat to slightly growing company trading as if it is about to fail and we see about 80% upside to share price.
City Office REIT (CIO)
PDF: cio-company-profile-4q16 (CIO) CIO 9.21 -0.43 -4.46%
City Office REIT (CIO) views property acquisition pragmatically, evading some of the REIT traditions that have gotten other office REITs in trouble. Specifically, I am referring to the willingness to buy outside of Class A in tier 1 MSA where cap rates are so compressed that upside is quite limited. Instead, CIO invests in what are still reasonably good properties, in growing MSAs, but at a much higher cap rate. So far, most of their acquisitions have seemed accretive to shareholder value and could become more accretive as growing lowers cost of capital. Unfortunately, growing does involve frequent equity issuance which historically has caused disruptions in market price. 1/10/17 was no exception as an issuance sent shares down over 3%. We used this as an opportunity to buy some cheap shares for 2CHYP as the dip should be temporary in nature. Overall, CIO trades at a low multiple relative to its growth potential and pays a nice dividend.
Communications Sales and Leasing (CSAL)
PDF: csal-company-profile-4q16 (CSAL) Unfortunately, we could not get stock quote CSAL this time.
Communications Sales and Leasing (CSAL) has gotten cheaper which has made its already large yield even bigger. With a current yield of 9.3%, it is clear that the market thinks it is risky, but we have seen multiple steps taken to reduce risk. CSAL continues to acquire different assets which diversifies its asset and tenant base. Additionally, CSAL’s main tenant, Windstream, puchased Earthlink. I believe the market has not realized the benefits of this M&A because it was not necessarily accretive to Windstream’s value. As CSAL holders we do not really care about the upside of Windstream, so any dilution that may have occured as the result of share issuance is of no consequence. Instead, we care only about their chance of defaulting on the very long lease with CSAL. With more assets and a significantly increased equity base, Windstream has improved its financial stability. Even with its progress toward diversification, CSAL still gets a majority of its revenues from WIN, so this M&A has gone a long way to secure CSAL’s dividend. There is room for significant capital gains if the market comes to realization of the reduced risk, and if not we can just sit and collect the oversized dividend.
Global Net Lease (GNL)
PDF: gnl-company-profile-4q16 (GNL) GNL 16.43 -0.40 -2.38%
Global Net Lease (GNL) has finally completed the purchase of its non-traded REIT brother (ARC Global Trust II on 12/22/16). Our analysis suggests this will be basically neutral to NAV and FFO/share as the discount at which it was purchased is roughly equivalent to the discount of the shares used to make the acquisition. The market has known this transaction was coming for a long time and non-arms-length transactions such as this can create quite an overhang. While the purchase was pending it seems GNL was on the do not touch list for many investors and some of these people may come back into the stock once things stabilize. Again, I do not think there was any value creation here, but it may have unlocked the discount inherent in GNL’s price. This is not a pretty company, but the dividend and asset value are worth far more than market price.
Gramercy Property Trust (GPT)
PDF: gpt-company-profile-4q16 (GPT) GPT 0.00 -27.48 -100.00%
Gramercy Property Trust (GPT) has made significant progress in its transition, from which it is nearly emerged. It now consists predominantly of industrial properties with long leases aggregated into a highly diversified portfolio. At a company level, GPT now has a large and investment grade balance sheet and stable cashflows. Overall, it closely resembles tenured industrial REITs which trade at significantly higher multiples of around 18X to 20X, yet GPT trades at 12.4X 2017 estimated FFO by FactSet consensus. GPT has generally been outperforming the market so I cannot say that the transition has gone unnoticed, but it still has a long way to go before it is priced in. We like management and the properties and believe GPT is worth a materially higher multiple.
Hersha Hospitality (HT)
PDF: ht-company-profile-4q16 (HT) HT 5.06 -0.21 -3.98%
Hersha Hospitality (HT) perenially outperforms fundamentally throughout the business cycle. It has demonstrated a rare willingness to shrink its asset base when it is accretive to shareholder value. This cycle alone, HT has bought back over 10% of its outstanding stock and made a sizable special distribution using proceeds from profitable hotel sales. In addition to buybacks, Hersha has accretively recycled assets in troubled MSAs such as NYC into more promising MSAs on the West coast and Miami. Since cap rates have gotten unreasonably low in NYC this recycling was beneficial to FFO/share both immediately and long term. We view Hersha as the best hotel REIT in terms of its ability to create value, yet it is priced in the middle of the pack.
Independence Realty Trust (IRT)
PDF: irt-company-profil-4q16 (IRT) IRT 10.83 -0.12 -1.10%
Independence Realty Trust (IRT) is a mediocre multifamily REIT trading at a deep value relative to peers. We do not anticipate that it will outperform peers in terms of growth, but with the way it is priced, it doesn’t need to. Its slightly positive SSNOI is sufficient to grow slowly and support the large dividend. In recent quarters there have been big events including a merger with TradeStreet and internalization, each which muddy the waters, making it hard to discern the sustainability of the dividend. As these events level out it should become clear that the dividend is sustainable and we anticipate IRT will trade up to bring its yield closer to peers. While we do not particularly like the company, its properties are well located in high growth markets. IRT is merely a means of purchasing these properties at a deep discount to NAV.
Lexington Realty Trust (LXP)
PDF: lxp-company-profile-4q16 (LXP) LXP 10.39 -0.04 -0.38%
Lexington Realty Trust (LXP) had a strong 3rd quarter which renewed our conviction in our previous thesis below.
“LXP has just completed its re-leasing phase and now has a freshly lengthened remaining lease duration. The refresh was acceptable with some negative rent rolls and some positive rolls to balance it out. It is very rare for things to go wrong mid rent cycle due to the contractual nature of cashflows, so we view LXP as a stream of cashflows rather than as an operating company. These cashflows are roughly 10% of its market cap annually which is dramatically oversized in today’s environment. As the chatter about lease renewal dies down, we believe the market will recognize and reward LXP’s large and very well covered dividend.”
While some are concerned about rising interest rates for NNN REITs, Lexington’s higher yield and FFO should perform well in a rising rate environment.
Medical Properties Trust (MPW)
PDF: mpw-company-profile-4q16 (MPW) MPW 18.01 -0.37 -2.01%
Medical Properties Trust (MPW) is particularly opportunistic currently with its repeatedly strong fundamental performance coinciding with a sell-off. The price drop in MPW shares is, in our view, entirely driven by fears about the macro healthcare environment and has little to do with MPW individually. MPW exclusively owns hospitals that are necessary to their local communities. Whatever happens in healthcare legislation, an environment must be maintained that allows these hospitals to stay open. Legislation that closes essential hospitals like those in MPW’s portfolio would be a humanitarian disaster that neither political party would support. Further, MPW’s operators have exceedingly high EBITDAR coverage ratios so it would take quite a bit of damage to the industry for it to leak through to MPW’s cashflows.
As “repeal and replace” becomes clarified, fears should subside. Even poorly designed legislation would likely be better for MPW than what the market is pricing in.
Omega Healthcare (OHI)
PDF: ohi-company-profile-4q16 (OHI) OHI 30.30 +0.62 +2.09%
Omega Healthcare (OHI), much like the other healthcare REITs we are invested in, is priced for a high probability of substantial harm. We see this as fairly unlikely due to the lack of fundamental business threats. Skilled nursing facilities, or SNFs, are the cheapest providers of certain procedures and care, for which demand is increasing. There is not yet a better substitute and we have not seen supply of SNFs increasing, so the occupancy rates should be stable or going up. Legislation may be annoying to the industry, but those which remain nimble should be unscathed. Omega has been working closely with its operators to prepare them for a new reimbursement environment which features increased bundling and potential changes from the new administration. The ride may be bumpy, but over the long run, it is hard to see a scenario where OHI is not worth more than current market pricing suggests.
New Senior Investment Group (SNR)
PDF: SNR Company Profile 4Q16 (SNR) SNR 3.07 -0.19 -5.83%
New Senior Investment Group (SNR) has been caught in the wave of pessimism that swept healthcare REITs. SNR should be virtually immune to Medicare and Medicade legislation as it is primarily private pay. As such, the material drop in its market price seems unfounded and we anticipate a reversal. Senior housing does have some supply concerns, but there is also strong demand which should net out. Perhaps the greatest concern with SNR is its operator concentration as Holiday is such a large component of their revenue. For this reason, SNR is a small holding such that this risk can be diluted over the portfolio.
Sotherly Hotels (SOHO)
PDF: SOHO company Profile 4Q16 (SOHO) SOHO 2.27 -0.10 -4.22%
Sotherly Hotels (SOHO) has a rather unusual valuation in that its market price fell so far as to make it exceedingly levered. Specifically, SOHO got as high as 80% debt on a market valuation basis which caused most traders to view the stock as risky. Digging deeper, however, it is clear that the leverage is well within reason when we measure debt against intrinsic asset value which by our analysis is north of $500mm. This is one of those anomalies where SOHO’s cheapness caused it to look riskier while in reality cheapness reduces risk. These are strong assets which can be purchased through SOHO at a steep discount to replacement cost and with superior cashflow to the cap rates at which such assets should trade. Although SOHO has already risen materially from its bottom, we still see material upside with a price target of $11.00.
STAG Industrial (STAG)
PDF: STAG Company Profile 4Q16 (STAG) STAG 28.84 -0.38 -1.30%
STAG Industrial (STAG) is the only traditional indusrial REIT with a reasonable valuation in our opinion. There are fundamental reasons the sector is a market favorite, ranging from the e-commerce boom to general economic growth, but for most, the strength is priced in. We see STAG as having access to the same upside, but at a much more reasonable price. It has remained at a discount due to its willingness to own Class B properties in markets outside of the top 10. Contrary to popular opinion, we think this is an advantage. These non-traditional markets have materially higher cap rates at a spread which more than makes up for slightly lower growth expectations. Over time, the gap should close, which will bring STAGs NAV up and likely its market price as well.
Washington Prime Group (WPG)
PDF: WPG Company Profile 4Q16 (WPG) WPG 0.71 -0.04 -5.50%
The market believes malls are struggling as e-commerce continues to gain market share. We agree, but the extent of damage that is priced in to Washington Prime Group (WPG) seems overblown. It seems the consensus thesis is that malls will lose a critical mass of tenants which will violate cotenancy clauses and cause the entire mall to close. While this has happened in some malls and will continue to happen in a few more, it is not as widespread as what is priced in. Specifically, I think the market is missing the fungibility of mall space as creative solutions can be found to accretively fill vacancies. WPG has been signing space to Amazon to use as a centralized pickup hub. E-commerce is merely ushering in a period of change to malls, rather than doom. Those flexible enough to adapt may even grow cashflows, and WPG’s new management seems quite willing to flex.
W.P. Carey (WPC)
PDF: WPC Company Profile 4Q16 (WPC) WPC 66.08 -0.44 -0.66%
W. P. Carey (WPC) has long been regarded as a premier NNN REIT. It has demonstrated a capability to consistently grow cashflows with a long history of dividend growth. Until recently, this strength was priced in as WPC traded at a high multiple. Examining the business, nothing has changed. It is still a dividend growth machine with a conservative payout ratio and a good mix of tenants/properties. The only thing which changed was its multiple which dropped precipitously as interest rate hikes threatened to come sooner or more frequently than some expected. All assets should reprice with interest rates, but some repriced violently and WPC was one such victim. Fundamentally, WPC is no more threatened by higher rates than the average equity, so we believe the drop was excessive and have used it as a cheap entry point into a solid long term performer.