Most income stocks have seen their values trimmed by rising interest rates. I can understand investors’ frustration at seeing the value of their portfolios decline, but there’s another side to this story: It allows you to buy good-quality stocks with enhanced yields at bargain prices.
This is a limited partnership that is majority-owned by Toronto-based Brookfield Asset Management. It is structured in much the same way as two of my other successful recommendations: Brookfield Infrastructure LP (BIP.UN-T, BIP-N) and Brookfield Energy Partners (BEP.UN-T, BEP-N). All are limited partnerships based in Hamilton, Bermuda. All trade in both Toronto and New York. Each focuses on a specific area of expertise. All offer attractive yields. All have a history of regular distribution increases.
Here are the details you need to know about BPY. Prices are as of the close of trading on Oct. 26, unless otherwise indicated.
Brookfield Property Partners
Type: Limited partnership
Current price: C$24.74, US$18.88
Annual distribution: US$1.26
Yield: 6.7 per cent
Background: This is a diversified global real estate business. It owns, operates and develops a large portfolio of office, retail, multifamily, industrial, hospitality, triple-net-lease, self-storage, student-housing and manufactured-housing assets. Its investment objective is to generate attractive long-term returns on equity of 12-15 per cent based on stable cash flows, asset appreciation, and annual distribution growth of 5-8 per cent.
Management seeks to do this by acquiring high-quality assets in resilient and dynamic markets and pursuing diversification across geographic areas and real estate sectors. The company continually sells stabilized assets at or near peak values and reinvests the proceeds into higher-yielding strategies. BPY’s portfolio features some of the world’s best-known commercial properties. They include Brookfield Place in Toronto, Canary Wharf in London, and Potsdamer Platz in Berlin.
The US$160-billion portfolio includes assets in North and South America, Europe, and the Asia-Pacific area. The partnership owns more than 450 million square feet of commercial space and employs about 17,000 people.
Performance: The units trended down for the first part of the year. From June to earlier this month, they moved in a narrow trading range between $25 and $27 (TSX prices). However, they broke below that level on Oct. 26 and are now trading below the 50- and 200-day moving averages.
Why we like it: This is one of the world’s largest real estate operations, with broad diversification both geographically and by sector. As the old saying goes, “they aren’t making any more land,” and BPY controls a sizeable amount of what exists. So, you’re investing in a quality asset at a time when it’s on sale.
For income investors, the major attraction is the 6.7-per-cent yield. The partnership has a history of raising its distributions every year, and there is no reason to believe that will change. The strong underlying portfolio ensures the continuity of cash flow.
Financials: The partnership reported net income of just over US$1-billion (69 US cents per unit) for the three months ending June 30. Third-quarter results will be released on Nov. 1. That compared with US$664-million (31 US cents per unit) in the year-ago period. For the first six months of the 2018 fiscal year, net income was US$2.1-billion, compared with US$851-million last year.
Comparable company funds from operations (FFO) for the second quarter was US$246-million (35 US cents per unit) compared with US$218-million (31 US cents per unit) last year. For the first half, it was US$514-million (73 US cents per unit), up from US$435-million (62 US cents per unit) in 2017.
Acquisitions and new projects: The partnership recently completed a US$9.25-billion deal to acquire GGP Inc., an S&P 500 company focused exclusively on owning, managing, leasing, and redeveloping high-quality retail properties throughout the United States. The move significantly expands the U.S. portfolio of BPY and its subsidiaries, including a new publicly-listed REIT that was created as a result of the deal.
The partnership was also part of a consortium that acquired two retail malls totalling 650,000 square feet in Shanghai for US$285-million (BPY’s share was US$72-million).
In August, the partnership announced plans to commence development of the third and final office tower of the Bay Adelaide Centre in downtown Toronto. Scotiabank has signed a commitment to lease 420,000 square feet – approximately 51 per cent of the building – for 15 years as the anchor tenant.
Distributions and buybacks: The current quarterly payout is 31.5 US cents per unit (US$1.26 per year). Distributions are paid in March, June, September and December. Recent history suggests we should expect an increase in the first quarter of 2019.
The partnership received approval in August for a normal course issuer bid to buy up to 21,091,764 limited partnership units, representing approximately 10 per cent of its public float over the period ending Aug. 19, 2019. Under the previous bid, BPY purchased 733,235 units at a weighted average price of US$19.02.
Risks: Rising interest rates are the immediate concern. They negatively affect property stocks in two ways. First, these companies are heavily leveraged, so when loans come up for renewal, the interest rates charged will increase. Second, higher rates for safe government bonds means investors demand improved yields from more risky securities. That tends to depress share prices, which pushes up yields.
The longer-term risk is a prolonged recession, which would have the effect of reducing occupancy rates, putting downward pressure on rents and reducing the market value of properties. If the downturn were serious enough, it could result in a freeze on distributions or even a reduction in the payout.
Tax implications: Because this is an offshore limited partnership, the tax reporting slips you receive will look somewhat complicated. For a Canadian taxpayer with holdings in a non-registered account, the 2017 tax breakdown showed about 19 per cent of the total distribution was in the form of eligible dividends and about 25 per cent was capital gains. Most of the rest was taxable at marginal rates. Of course, there is no guarantee that 2018 distributions will follow the same pattern, but this gives you a broad idea of what to expect. You can avoid any tax concerns by holding the units in an RRSP or RRIF. Units held in a TFSA may be subject to a small amount of withholding tax, but it won’t be significant.
Who it’s for: BPY is suitable for investors who are willing to accept a moderate degree of risk in return for a very attractive yield.
Summing up: This partnership offers a top-quality portfolio with capital-gains potential and a high yield. There is short-term risk in the form of rising interest rates, but the cash flow and the long-term benefits of owning a piece of a huge real estate portfolio offset that.
Gordon Pape is Editor and Publisher of the Internet Wealth Builder and Income Investor newsletters.