Warning: Why it’s Time to Rethink the Income You Get From REITs

Be careful of REITs with stagnant growth and stretched payout ratios. Otherwise, you might wake up to a dividend cut, which occurred to Artis Real Estate Investment (TSX:AX.UN) recently.

Investors who seek stable income should consider carefully which real estate investment trusts (REITs) they might include in their portfolios. REITs generate rental income from their real estate empire, which sounds like a stable source of income. However, dividend cuts may be more common than you think.

Here are three REITs that offer yields of up to 11%. Investors should investigate and choose carefully to avoid dividend cuts in high-yield stocks such as these.

American Hotel Income Properties REIT (TSX: HOT.UN) holds a U.S. portfolio of hotel properties primarily located in secondary markets. The REIT’s continued renovation activities at selective hotels have impacted its performance.

Although its same-property net operating income (NOI) grew 1.2% from Q3 2017 and same-property NOI margin increased to 35.3%, it now expects its adjusted funds from operations (FFO) payout ratio to be 100% this year instead of the previous guidance of about 90%.

The market is worried about a potential dividend cut. So, the stock fell +7% on Thursday and now yields 11.17% at $7.60 per share. However, management seems to be behind the dividend and pointed out that the payout ratio will improve in 2019 from normal operations at hotels that have completed renovations.

commercial properties

Artis REIT (TSX: AX.UN) stock fell off a cliff early this month, which shaved 10% off its market cap. The diversified REIT admitted to a challenging environment, including rising interest rates. It also noted that the REIT was trading at a huge discount to its net asset value. So, it had better use for its capital and cut its dividend by half.

The reduced dividend will begin for the November distribution, which is payable in December. The new annualized distribution of $0.54 per unit represents a yield of 5.2% and will be supported by a payout ratio of about 53% in 2019.

Slate Office REIT (TSX:SOT.UN) is a pure play on office properties. It has done quite well by delivering returns on equity of about 12% every year since 2015.

Its portfolio is comprised of 43 properties across 7.9 million square feet. Its FFO payout ratio has improved from +100% three quarters ago to 93.5% in Q3. However, its adjusted FFO payout ratio has exceeded 100% for at least a year.

Slate Office currently offers an annualized distribution of $0.75 per unit, which equates to a yield of 9.95% at $7.54 per unit as of writing.

Investor takeaway

In the current increasing interest rate environment, investors should watch out not to allocate too many invested dollars in interest rate-sensitive stocks such as REITs, which inherently have high debt levels. However, if you need high yields, choose companies that offer good, stable growth and safe dividends.

Fool contributor Kay Ng has no position in any of the stocks mentioned.

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