Net lease real estate investment trust (REIT) bellwether Realty Income (NYSE: O) is offering investors a 4.9% yield today. Meanwhile, peer W.P. Carey (NYSE: WPC) has a yield of 6.2%. Before you assume Realty Income is just a better company, you need to dig into W.P. Carey’s story a little. In the end, it’s not as risky as some investors may believe.

This vs. that

Realty Income has a great history behind it, including 27 consecutive years of dividend increases. That makes it a Dividend Aristocrat, something you don’t achieve by accident. However, W.P. Carey has amassed an annual dividend hike streak of 22 years. While not as good as 27, that amounts to an increase each year since its 1998 IPO. So, on the dividend front, it really stands toe to toe with Realty Income.

And in some ways, it might even be a better REIT. That’s not a statement to take lightly, given Realty Income’s long history of success. However, Realty Income’s portfolio is heavily focused on retail assets, which make up 85% of its rent roll. The rest is spread between office (3% of rents) and industrial (10%) assets, with an opportunistic vineyard investment rounding things out to 100%. Roughly 4.5% of its rents come from the United Kingdom.

W.P. Carey’s portfolio is much more diversified, spread across the industrial (24% of rents), warehouse (23%), office (23%), retail (17%), and self-storage (5%) sectors, with a sizable “other” component filling things out. Roughly 37% of its rents come from outside the United States, largely from Europe. If diversification is important to you, W.P. Carey wins hands down.

If you don’t believe diversification matters, take a look at Realty Income’s rent collection rates during the coronavirus pandemic. In April 2020, the REIT only collected 83% of its rents, thanks largely to weakness in the retail sector. W.P. Carey collected 97% of its rents in April. Realty Income’s rental collection rates were back up to 93% or so in the third quarter, but even that fell behind W.P. Carey’s roughly 98% rate. Once again, W.P. Carey comes out looking pretty good.

No respect

So, despite strong performance, W.P. Carey doesn’t get the same level of investor interest as Realty Income, looking at the yield difference between the two REITs. One of the key reasons for this is that W.P. Carey has a history of working with lower-quality tenants. Roughly half of Realty Income’s portfolio is filled with investment-grade tenants. W.P. Carey’s number is 29%. That puts it toward the low end of the net lease space, including peers with more similar portfolios.

That’s a problem for many investors, who believe it’s better to work with higher-quality companies. There’s solid logic there, to be sure. A tenant with a higher credit rating is likely to have greater access to capital markets in both good times and bad. That suggests investment-grade tenants will hold up better overall than non-investment-grade ones. But W.P. Carey’s results hint that this view may not be wholly appropriate.

W.P. Carey tends to originate its own leases, usually buying properties directly from companies in sale/leaseback transactions. This means it gets to control the lease terms and, perhaps more importantly, really dig into the company’s books. The REIT considers this a competitive edge, as it tries to buy critical property from companies with solid future prospects. Looking for companies that management believes will see improved credit ratings is built into its process as a way to create value over time.

That fits tightly with the REIT’s opportunistic approach. It will often put money to work when others pull back. For example, relatively early in the pandemic, W.P. Carey announced it was looking to buy industrial assets. It followed through, including a flurry of deals to close out 2020.

But using an economic downturn to buy assets is just one way to be opportunistic; working with tenants other REITs are avoiding because of perceived credit quality issues is another. It’s especially enticing if originating the lease means getting to do a deep dive into the company’s books, which may reveal it’s stronger than it first appears.

Don’t get stuck following the crowd

Far from a negative, W.P. Carey’s willingness to cut deals with lower-rated tenants is a key advantage, since it expands the REIT’s opportunity set. And a quick look at the history here, which includes a dividend increase every single year of its existence, backs up that view. Realty Income is, indeed, a great company, but everyone knows that.

If you’re willing to do things a bit differently — and get a higher yield for doing so — you should look at W.P. Carey. Taking prudent risks, including working with lower-quality tenants, has worked out well for the REIT and its shareholders as it executes on its differentiated business model.



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