To counter high inflation, the Bank of Canada has raised interest rates since 2022. From the peak of 8.1% in June 2022, the inflation in Canada had fallen to 2.8% in February. This is back to the Bank’s long-term target inflation of 1-3%. This means we might only need a catalyst before the Bank of Canada would start cutting interest rates. That catalyst could be a recession.
To be clear, I’m not spelling doom and gloom about the economy today. It’s just that historically, recessions do come back from time to time. According to the Canadian Encyclopedia, Canada has experienced five recessions since 1970 and 12 since 1929. So, that averages a recession every eight to 11 years. The last one we had was the COVID-19 recession in 2020.
Higher interest rates have generally pressured Canadian real estate investment trusts (REITs), as higher rates increase borrowing costs and reduce growth. So, the Canadian REITs are trading at relatively cheap valuations. As a result, their cash distribution yields are also higher than normal.
With this background introduced, here are some of the best Canadian REITs to invest in this May.
Residential REIT
Residential REITs are some of the more defensive Canadian REITs investors can consider. It just so happened that the stock of the largest player Canadian Apartment Properties REIT (TSX: CAR.UN), or CAPREIT, is down more than 20% from its 52-week high.
At $42.82 per unit at writing, it’s back to its long-term normal valuation of about 20.8 times funds from operations. It commands a premium valuation from its diversified and quality portfolio of residential properties. At this quotation, it offers a decent cash distribution yield of almost 3.4%, and analysts believe it trades at a discount of about 24% from its fair value.
Industrial REIT
If you’re looking for more income but also an idea from a defensive industry, you can consider a name like Dream Industrial REIT (TSX: DIR.UN), which maintains an occupancy rate of around 96%, a solid balance sheet and projects strong mark-to-market rent.
The stock has declined more than 16% from its 52-week high. At $12.48 per unit at writing, it offers a nice cash distribution yield of 5.6% and trades at a discounted valuation of about 12.5 times its funds from operations. At this quotation, analysts believe it trades at a discount of about 22% from its fair value.
Retail REIT
Lastly, retail REIT RioCan REIT (TSX: REI.UN) has the strongest multi-year turnaround potential of the three ideas — potentially returning to $24-25 per unit in the future. It also offers the highest yield, which suggests that it has the highest risk of the group.
Not surprisingly, the stock has been in a downtrend since 2022. From its 52-week high, the monthly income stock has dropped more than 16%. At $17.45 per unit at writing, it offers a juicy cash distribution yield of almost 6.4%, which seems to be sustainable based on its current funds from operations generation.
In fact, RioCan has started increasing its cash distribution every year since 2022. This trend seems set to continue. At the recent quotation, analysts estimate the stock is undervalued by about 17%.
