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Income-oriented investors are suffering this year due to the surge of inflation to a 40-year high. High inflation greatly reduces the real value of their portfolios as well as the spending power of their income streams. Most REITs offer significant protection against inflation, as they can raise their rents materially in the current environment. In this article, we will discuss the prospects of three high-yield REITs, which offer exceptionally high dividend yields and are attractively valued right now. These REITs are likely to highly reward investors whenever inflation subsides while they also make it easier to wait patiently for the ongoing bear market to come to an end.

SL Green Realty (SLG)

SL Green Realty is a REIT that is focused on the acquisition and management of Manhattan commercial properties. It is the largest office landlord in Manhattan, with 64 buildings totaling 34 million square feet.

SL Green Realty is facing a strong headwind due to the coronavirus crisis. While most REITs have recovered from the pandemic, SL Green Realty is still feeling the impact from that crisis due to the work-from-home model that remains in place. While many employees have returned to their offices, office occupancy rates in Manhattan and other large cities remain depressed, as many companies have appreciated the virtues of this work model. Due to this headwind, SL Green Realty faces an unprecedented tenant-friendly environment and thus it is forced to offer significant concessions to its tenants.

However, the stock has been punished to the extreme by the market. It is currently trading at a 10-year low price-to-FFO ratio of 6.1, which is much lower than the 5-year average FFO multiple of 12.4 of the stock. It is also important to note that the REIT has incurred just a 6% decrease in its FFO per unit due to the pandemic. Moreover, the pandemic has begun to subside and hence office occupancy is likely to improve in the upcoming years. As a result, SL Green Realty is likely to be able to raise its rents significantly in the upcoming years, as it operates in one of the most popular commercial areas in the world.

Furthermore, the stock is currently offering an exceptionally high dividend yield of 9.3%. The REIT has net debt of $5.1 billion, which is twice as much as the market capitalization of the stock and hence it is high. However, as this amount is 10 times the annual FFO of the REIT, it is manageable. This is the reason behind the strong BBB credit rating of SL Green Realty. Given also its healthy payout ratio of 57% and its expected recovery, its dividend appears to be safe in the absence of a severe recession.

Office Properties Income Trust (OPI)

Office Properties is a REIT that owns more than 170 properties, with 22.5 million square feet in 32 states. It leases its properties primarily to single tenants with high credit quality. More precisely, Office Properties generates approximately 20% of its rental income from U.S. government agencies and 63% of its rental income from tenants with an investment grade credit rating. Therefore, it has a reliable profile of tenants.

Unfortunately, just like SL Green Realty, Office Properties has been significantly hurt by the adoption of a “work-from-home” model by many companies. In contrast to other REITs, which have recovered from the pandemic, Office Properties has incurred a 19% decline in its FFO per unit since the onset of the pandemic. Even worse, the REIT has been caught with a high debt load in the ongoing downturn. Its net debt stands at $2.5 billion, which is nearly 4 times the market capitalization of the stock. As a result, Office Properties has been selling some of its assets, in an effort to strengthen its balance sheet, but these divestments have been taking their toll on growth prospects.

On the bright side, the market has punished the stock to the extreme. Office Properties has plunged 46% this year and thus it is now trading at a 10-year low price-to-FFO ratio of 2.9. It is also offering a 10-year high dividend yield of 15.7%, with a healthy payout ratio of 45%. If the aggressive interest rate hikes of the Fed cause a severe recession, the REIT is likely to cut its dividend but it will still be offering an above-average yield. If the Fed achieves its goal of a “soft landing”, Office Properties is likely to offer excessive total returns thanks to its depressed valuation and its outstanding yield.

Brandywine Realty Trust (BDN)

Brandywine Realty Trust is a REIT that develops, leases and manages an urban town center and transit-oriented portfolio, which includes 165 properties in Philadelphia, Austin and Washington, D.C. The trust generates 74% of its operating income in Philadelphia, 22% of its operating income in Austin and the remaining 4% in Washington, D.C.

As Brandywine generates the vast portion of its operating income in Philadelphia and Austin, it is worth noting the advantages of these two areas. According to official reports, Philadelphia has the highest growth rate of highly educated citizens since 2008. This state attracted $8.1 billion of venture capital deals last year, the 5^th highest performance in the whole country. In addition, 80% of the biotechnology companies in the U.S. have offices in Philadelphia.

Moreover, Austin is the fastest-growing metropolitan area, the best place to start business and it has retrieved all the jobs lost due to the pandemic. Oracle and Tesla recently moved their headquarters to Austin. Up to 50 companies may move to Austin to service Tesla and its supply chain vendors. Overall, the outlook is bright for those who operate commercial properties in the area.

Unfortunately, Brandywine has exhibited a lackluster performance record, as it has grown its FFO per unit by only 1.6% per year over the last decade. It has also been caught with a high debt load in the ongoing downturn, as its leverage ratio (Net Debt to EBITDA) is exceptionally high, at 7.4. The weak balance sheet is the primary reason behind the freeze of the dividend for 16 consecutive quarters. It is also worth noting that the tenants of Brandywine are vulnerable to recessions and hence the REIT will be hurt in the event of a severe recession.

On the other hand, the stock has become extremely cheap after a 51% plunge this year. It is trading at a 10-year low price-to-FFO ratio of 5.0, which is much lower than the 10-year average price-to-FFO of 10.9 of the stock. In addition, the stock is offering a 10-year high dividend yield of 11.1%, with a decent payout ratio of 55%. In the absence of a fierce recession, Brandywine is likely to offer excessive returns to investors thanks to its extremely cheap valuation level and its generous dividend. Even in the adverse scenario of a severe recession, the REIT is likely to recover strongly in the subsequent economic recovery and thus reward patient investors. Overall, the risk-to-reward ratio of Brandywine is exceptionally favorable from a long-term perspective but patience is required.

Final Thoughts

The above three REITs are offering exceptionally high dividend yields and are trading at markedly cheap valuation levels. The reasons behind the plunge of their stocks are fears of an upcoming recession and their material debt loads. However, in the absence of a prolonged recession, these REITs are likely to recover strongly whenever the economy recovers and hence they are likely to offer outstanding returns to those who have the courage to adopt a contrarian view amid negative market sentiment. Nevertheless, only patient investors, who can tolerate prolonged stock price pressure, should consider purchasing these stocks.

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