I firmly believe the best investing opportunities have a few defining characteristics.
First, we need growth. While a stagnant company might deliver decent returns based on its earnings stream alone, it’s not an opportunity to get really excited about. A great investment opportunity is in a company that can grow substantially in just five or 10 years.
It isn’t just enough to grow at all costs, however. A business must scale effectively to get investors really excited. What this really means is the business shouldn’t deteriorate as it grows. A company can throw as much money as it wants toward growth, but it won’t get investors excited unless that cash is spent wisely.
A third wrinkle is being able to get investors excited about the future. One of the most important investing lessons I’ve learned over the years is that most successful investments tell a story. You want a narrative that regular folks can buy into, something they can tell their friends about at cocktail parties.
I think I’ve found a stock that checks off all of these boxes — an opportunity you likely haven’t considered given that it’s flying so far under the radar. Let’s take a closer look at a company that could potentially revolutionize your portfolio.
Okay, I’ll admit that at first glance, European Residential REIT (TSXV:ERE.UN) doesn’t look like a very enticing opportunity. It buys apartment buildings in the Netherlands using a series of acquisitions to boost its portfolio to just over 5,600 units in the country.
Fundamentals in the Netherlands continue to be pretty solid, with a robust local economy leading to strong demand for housing. The company reported that it raised rents an average of 4.3% in 2019, which included an average 6.4% increase when changing from one tenant to another.
And despite issuing loads of shares to pay for the acquisitions, the company boosted its funds from operations on a per share basis by close to 10%. I like that discipline.
Most of the portfolio today is in the Netherlands, albeit that will change over time. The company sees opportunities to expand throughout Europe, with focus likely to shift to places like Belgium or Germany over the next few years.
The German opportunity looks particularly exciting. Europe’s biggest economy is home to more than 80 million people, and there’s almost 200 million people in Western Europe.
We also must remember that interest rates are much lower in Europe, giving the company the ability to lock in some attractive mortgage rates.
It paid an average rate of just 1.64% on new mortgages in 2019, an improvement of nearly 40% compared to 2018’s average mortgage rate, which was a hair above 2%.
Here’s what makes this opportunity much more interesting. European Residential REIT has strong backing from Canadian Apartment Properties REIT, with Canada’s largest publicly traded residential landlord owning approximately two-thirds of the total shares outstanding. This support is why European Residential REIT has been able to more than double the size of its portfolio in the past year alone.
Remember, Canadian Apartment Properties has done something similar before, spinning out its Irish assets into a separate company. Shares of that company are up 50% over the last five years despite giving up significant ground lately. And the Irish operations are growing smartly as well, including increasing its portfolio size by more than 30% in 2019.
Finally, I should mention valuation. European Residential REIT is not cheap; it trades for about 25 times 2020’s expected earnings. But great growth stocks are seldom a great value. Besides, if the company can continue its torrid growth pace, investors won’t be focused on the valuation.
The good news is the company does pay a dividend. The yield is around 3%, which is pretty robust for the type of assets it holds.
The bottom line
Over the last 20 years, Canadian Apartment Properties has transformed itself into a dominant company with assets across Canada and into Europe. European Residential REIT has similar potential.
While there’s no guarantee such an investment works out, it has all the variables needed for the kind of explosive growth that can really transform your investments. A name with such potential surely deserves a spot in your portfolio.
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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.
Fool contributor Nelson Smith owns shares of European Residential REIT.