Fri Jul 18 2014
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A Cheap, High-Yielding Apartment REIT

I recently discussed one of the most significant problems facing our economy – a massive debt load.

The aggregate debt level, relative to economic output, has not materially declined since the apex of the credit expansion in 2008.

To be sure, the situation has improved somewhat. Pockets of deleveraging have occurred.

However, there’s one crucial area that’s accumulating debt at a frightening pace…

Outstanding student loan debt has surged to an astounding $ 1.26 trillion from $ 637 billion at the end of 2007.

The Class of 2014 is the most indebted ever, with an average of $ 33,000 in student loan debt per graduate.

This is particularly troublesome because these young adults are the next generation of consumers and homeowners. College graduates are becoming increasingly burdened with student loan payments well into their adult lives.

According to the National Association of Realtors, student loan debt is hampering the household formation process. In a recent survey, among first-time buyers who said it was difficult to save for a down payment, 54% said student loans made it tough to save money.

The Federal Reserve is even noticing the impact of these trends on the housing market. Below is an excerpt from the latest Federal Open Market Committee meeting minutes (emphasis added):

“Despite attractive mortgage rates, housing demand was seen as being damped by such factors as restrictive credit conditions, particularly for households with low credit scores; high down payments; or low demand among younger homebuyers, due in part to the burden of student loan debt.”

Whether it’s due to student loan debt, stagnant wages, economic hardship, or even personal preferences, homeownership among young adults is in a startling decline.

The homeownership rate in the first quarter of 2014 for Americans 35 and under fell to 36.2%, the lowest level since the U.S. Census Bureau started tracking home ownership by age in 1982.

But the Millennials have to live somewhere. If they don’t own a house – and they aren’t living with Mom and Dad – then they’re probably renting.

Ultimately, those who own and manage apartment complexes and multifamily communities stand to benefit from a nation of renters.

Cashing in on a Nation of Renters

There’s reason to believe that residential real estate investment trusts (REITs) are going to be the beneficiaries of these secular, macro tailwinds.

But as we’ve been saying all year, the larger REITs tend to be expensive.

But a small-cap REIT, Independence Realty Trust (IRT), has caught my attention this week.

Independence Realty Trust owns and operates garden-style and mid-rise apartment properties in Arizona, Colorado, Georgia, Indiana, Texas, and Virginia. The company just priced a secondary offering (or additional issuance of shares), and it intends to use the net proceeds from the offering primarily to acquire additional apartment properties.

In the past week, IRT’s stock price has declined from over $ 10.50 down to around the offering price of $ 9.50. Secondaries are often good buying opportunities for astute investors, and from an investment standpoint, its valuation is very attractive.

The table below compares IRT with a few of the big boys: Equity Residential (EQR), AvalonBay Communities (AVB), andEssex Property Trust (ESS).

As you can see, IRT is far cheaper than these larger REITs based on its price to 2014 estimated funds from operations (FFO).

The new price-to-FFO ratio for IRT may change, depending on how much cash flow per dollar the new assets produce relative to the company’s existing apartment portfolio.

However, I don’t think the firm would be raising funds unless it and the external manager, a wholly owned subsidiary of RAIT Financial Trust (RAS), are confident that there are attractive acquisition opportunities out there.

Yield-starved investors will also love IRT’s 7.6% annualized dividend yield, as well as its monthly dividend payout.

Bottom line: Independence Realty Trust is a cheap, high-yielding REIT that’s positioned to benefit from our nation’s shift towards renting.

Safe (and high-yield) investing,

Alan Gula, CFA

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