Mispriced REITs, AI immunity, and the next real estate cycle

0:09Jussi Askola:Welcome to the show for the very first time, long time coming, Jussi Askola from High Yield Landlord on Seeking Alpha. Welcome to the show, Jussi. Thank you very much for having me. It's great to have you. And I feel like if we were going to wait this long, it would be a good time to get you on the show. What with your focus on REITs and there's talk of interest rates going higher and how much that affects the space. Also, a lot of questions, I think, about real estate in general. If you would introduce yourself to our audience for those of you that haven't read your work on Seeking Alpha before.

0:46Sure. Thank you. So my name is Yossi Ascola. I run a small REIT investment firm called Leonberg Capital. We have a newsletter on Seeking Alpha called Hired Landlord. I think it's the biggest REIT dedicated investment newsletter. But on top of that, we also work for some institutional investors, helping them with their REIT investing. We occasionally work for the REITs themselves. Most recently, we worked for an Indian REIT called Embassy REIT that's co-sponsored by Blackstone, helping them improve their investor relations. But yeah, our main focus is the REIT market. We are REIT specialists. We think it's a very attractive subsector with often mispriced opportunities as it's a niche that fits between real estate and stocks.

1:29And often you get opportunities to buy real estate at a steep discount via the REIT market. And that's why we find it so interesting.

1:36Jussi Askola:Would you explain in a bit more detail what it means to be in touch with the REITs and how that lends itself to how you talk to institutions, how you talk to retail investors? Yeah, so our platform here on Seeking Alpha and elsewhere as well has led to a big audience. We are very grateful for it and it has opened a lot of doors for us to talk directly with the REITs. They're often very happy to come on for exclusive interviews as it gives them exposure to our audience. And thanks to that, we're able to often And have these REIT CEOs come on, hired landlords to discuss their future prospects. It helps us a lot to identify new opportunities.

2:18But yes, this access, we've gained it in big part thanks to Seeking Alpha and our audience here.

2:24Jussi Askola:So are there specific REITs that you focus on? How do you choose where to allocate your focus? So we have a small team of analysts. We're a team of three people. and we focus primarily on the American market, given that this is the biggest and most best established market in the world. REITs have existed there since the 60s, but we also look at opportunities elsewhere. At Hayat Landlord, we have an international REIT portfolio with REITs across Europe, but also one in Africa, some in Latin America, in Asia. The REIT market is truly global today. There are REITs in 40 plus different countries and we are looking everywhere for opportunities, But the reality is that the REIT market in the U.S.

3:06is still by far the biggest and best developed. And for this reason, that's where we have most of our attention today.

3:13Jussi Askola:I guess a two point question. A, how do dividends figure into how you look at the space and what are the metrics that you're most focused on? REITs are typically perceived to be income driven investments. They are targeted by a lot of dividend investors. However, I think that REITs are still, at the end of the day, equity investments. They are total return investments. A lot of people are not aware of this, but REITs over the past 50-plus years period, up until this recent bear market, had even beaten the SAP 500. So I think it's a mistake that a lot of investors make to be selecting REITs primarily on their dividend yield and their dividend growth prospects.

3:55I think that people should look beyond that and think of them as total return investments. And so things that, just to cite a few metrics that we look at, will be things like growth in the same property, net operating income. So are the REITs able to grow their occupancy rate, their rents? You may want to look at their debt metrics. Are they debt to EBITDA, their loan to value? Do they have an under-leveraged balance sheet that perhaps gives them capacity to keep investing in growth? Are they able to develop new properties? What are the initial yields on the new investments? Is it resulting in a positive spread over the cost of capital?

4:32These are the type of things that we will look for as we seek to find rates with growth potential, value creation potential. And I think that this is just as important as the dividend itself. Again, I think it's a bit of a misconception that rates are just yield-driven investments. They are very attractive total return potential as well of the long run, especially if you pick the right ones.

4:53Jussi Askola:What are the right ones that you're looking at, or what are some of the right ones that you would encourage investors to take a look at? There are a lot of opportunities today in the REIT market, because the REIT sector has actually been through a bear market for the last four to five years now. And this started with the surge in interest rates of 2022, 2023. This led to a historic capital outflow from REITs towards fixed income, and so valuations are historically low today. So picking just one or two investments is difficult here. But if I had to point a few attractive opportunities, the first one that comes to my mind is Shureguard Self Storage.

5:33This is the leading self-storage rate in the European continent. Its biggest shareholder is public storage, which is the biggest self-storage investor in the world. It owns 35 % of its equity. And the rate is heavily discounted, trading at a 50 % discount to its net asset value. And we think that this is in big part because self-storage faced some oversupply in Europe of the past few years. This led to stagnating rents. However, importantly, we're expecting a return to faster growth in 2027. The REIT has guided towards FFO per share from 2027 through 2030 by 6 % to 8 % annually. And this type of growth coupled with the BBB investment grade rated balance sheet is a very unusual setup for retrading at such a low valuation.

6:22And this is why it's one of the REITs that we've been accumulating a lot lately. But if I can maybe point to another opportunity now on the American continent, we just recently invested in a health care REIT called National Health Investor. and we invest in it primarily because the REIT is going through a major transformation. It's selling its skilled nursing facilities in order to refocus heavily on the senior housing market which is today undersupplied. It's enjoying high occupancy rates, strong rent growth and because of this the major senior housing REITs like Well Tower are today trading at very expensive valuations of 35 times FFO, large premium student asset values.

7:04However national health investors today trading at just about 15 times FFO. So a steep discount to these larger peers. And I think that this is in big part because this transformation has gone unnoticed so far. But as they complete it and they increase their senior housing exposure, we expect a re-rating to a higher valuation. And while we wait, we're earning an attractive 5 % dividend yield.

7:26Jussi Askola:A, how long do you typically buy and hold? When do you typically sell? What would make you sell on, let's say, those two REITs in particular? Yeah, I guess let's start there. So we are active investors. And what this means is that, you know, we will look for undervalued opportunities. And typically we have a thesis. We have some specific catalysts in mind that perhaps may help the REIT reach its fair value. And this may happen over six months or it may happen over five years. It really depends greatly. But typically, our investment horizon is long. We hold most of our rates for many years. But as they reach their fair value, sometimes faster than at other times, we will typically sell to then reinvest in the next opportunity to free up our capital since our capital is limited.

8:16And if something has reached its full potential, will typically free up this capital to then invest elsewhere. But again, I didn't really answer your question. Sometimes it might be six months. Sometimes it's five years.

8:29Jussi Askola:Depending on how the catalysts work out, depending on how management reacts to things, all the various things that you're looking at. Exactly. And sometimes just everything is working out perfectly, but the market just goes against you. And I'm a strong believer that predicting what the market will do over the short run is not possible. And when I say short run, I'm not meaning next week or next month or even next quarter, not even next year. It can be even two, three years. It's very difficult to predict what the market will do. Everything might work out perfectly and the market may still go against you.

9:03And yeah, so sometimes the thesis takes quite long to play out. But the nice thing with rates is that in the meantime, you're earning steady dividend income, typically a fairly sizable yield, which helps to stay patient. And these REITs are also, in the meantime, continuing to create value in most cases by growing their cash flows, by improving their balance sheet, by buying back shares and so on.

9:24Jussi Askola:How much focus do you put on the tenants when it comes to REITs? It is a major factor to consider, especially when evaluating risks, you know, because some REITs are much better diversified than others. Some REITs have much riskier tenants than others. You know, to give you an example that cost us dearly in which we suffered steep losses, its Medical Properties Trust was heavily exposed to Steward, which was its biggest tenant representing over 20 % of its rental income. And this tenant ended up going bankrupt. And as a result of this, the REIT faced severe difficulties then having to release these properties, having to cut its dividend.

10:07And we were aware of this risk, but perhaps we underappreciated just how badly Streword was performing. And so this loss is a good lesson of how important it is to look at their tenant roster, make sure it's well diversified as well, that the tenants are performing well and continue to grow their business and likely to renew their leases.

10:30Jussi Askola:Only because I am personally interested and also I have a podcast that talks about the cannabis investing space. Anything that you would say, and because of the rescheduling conversation around cannabis, anything to say about the cannabis REITs these days in particular? So I think that they're very interesting, especially today because of the reason you mentioned the rescheduling of cannabis. This has the potential to greatly improve the tenant quality, the health of these tenants, because, you know, the big problems of cannabis rates like innovative industrial properties and ULA Capital Partners in recent years has been that their tenants have been under severe pressure and they face some lease defaults.

11:11This has really hurt their market sentiment. It has led to stagnating or even slightly declining cash flows. But if cannabis is now rescheduled, these tenants should see their financial health improve drastically already in the new term, improving rent coverage ratios. And if you now remove these fears of tenant bankruptcies, I would expect a significant rating of these rates to higher valuation multiples. And so for this reason, if you're a higher risk-tolerant investor and you're a believer in this risk scheduling, then I think it's a very interesting space to be investing in today.

11:50Jussi Askola:Is it something you're looking at at all or your team is looking at? It is, yes. And we do hold a position in New Lake Capital Partners, which in my opinion is the more attractive rate of the two ones that focus on cannabis. The other one is innovative industrial properties. We think that New Lake Capital Partners is more attractive. because it's a much smaller rate. It has built its portfolio much more gradually over time. It didn't have this explosive growth phase like innovative industrial properties had when its cost of capital was very low and it was able to raise a lot of equity and buy huge volume of properties.

12:26I fear that the underwriting suffered a bit during this period as the spread over the cost of capital was so big that they could justify these acquisitions. But as a result of this, the average portfolio quality is today lower than that of New Lake Capital Partners. They also have more leverage. What's unique about New Lake is that it's net cash positive, meaning that has more cash than debt. And I think that this puts it in a great position to now capitalize on these new opportunities. And yet its valuation is very low trading at about eight times its FFO. It's about in line with the multiple of innovative industrial properties, despite having a better balance sheet and a better portfolio, in my opinion.

13:04Jussi Askola:What else would you say in terms of the sectors or the subsectors under real estate? What has you the most excited in terms of REITs and then also just the space in general, like looking at real estate? What has you more excited and what do you think is something that investors should be uber cautious about? The REIT market is very vast. There are 20 plus different property sectors. They truly invest in every sector imaginable today, including even very niche property sectors like farmland, timberland, billboards, data centers, cell towers, cold storage, cannabis, which we just discussed, and a lot of others.

13:43And so, and there are better and worse times to be investing in all these property sectors. And you know, typically most investors will be looking for a property sector that's undersupplied, that's enjoying rapid rent growth, and all else held equal, this probably would be the right approach, but the problem is that the market is not stupid. And when a property sector is performing so well, it will typically trade at a fairly expensive multiples. For this reason, typically I'm doing something that may seem counterintuitive, but I will focus on those sectors that are today struggling. I'm often investing in oversupplied property sectors.

14:19And the reason why I do that is because most investors tend to be excessively focused on short-term results from my experience. And as a result of this, whenever a REIT is dealing with oversupply and rents are stagnating or declining, the market will often overreact. And it will treat these headwings as if they were permanent ones, when in reality, real estate is cyclical. When a property sector is oversupplied, eventually property developers lose money, they scale back projects, eventually the demand catches up to the supply, the market regains balance, and the cycle starts all over again. And so with that in mind, the property sectors that are today oversupplied and heavily discounted in which I'm investing heavily include residential, apartment communities, especially in the Sunbelt markets today.

15:07These rates like BSR rate, Camden Property Trust are heavily discounted relative to the net asset value. And that's because rents have been stagnating in recent years. However, I expect rent growth to already accelerate in 2027, 2028. So that's an attractive catalyst coming their way. Another property sector, which I mentioned earlier when we discussed Shrugard, is self-storage, particularly in Europe. It's also a bit oversupplied today. And as a result of this, I think the market has overreacted with Shrugard now trading at a 50 % discount to its net asset value. But as, again, conditions improve, I think this will serve as a strong catalyst for rewriting of the stock.

15:42Those are the two property sectors that come first to my mind, will be residential and self-storage.

15:47Jussi Askola:Anything else to add about the dividend conversation, like how that pertains to investing in REITs in particular, like how else to think about it? Yes. Well, one interesting thing that I would like to point to is that a lot of investors who began investing in REITs, including myself in my early days, make the mistake of going for REITs offering the highest dividend yields. There are many REITs offering dividend yields in excess of 10 % even. And however, studies show that the lower yielding REITs typically tend to outperform these higher yielding rates over the long run, And it makes sense when you think of it, because, you know, again, I just said earlier that the market is not stupid.

16:26And, you know, it may not be perfectly efficient, but it's not completely irrational either. And if it's pricing a rate at a 10, 12 percent dividend yield, that's probably because there are some major issues about the rate. Probably its balance sheet is over leveraged or the management is conflicted and looking to line up its own pockets rather than acting in the best interest of shareholders. And whenever REIT is dealing with this type of structural issues, this often leads to eventual dividend cuts and value destruction over time. And yet, unfortunately, REIT investors tend to often gravitate towards these high yielding REITs, especially early on as they start investing in REITs.

17:06I think that, you know, this is probably the biggest mistake investors make. And so it's very important to not get too greedy and just go for the yield. it's much better to earn, let's say, 5 % dividend yield coupled with 5 % annual growth than earning a flat and risky 10 % dividend yield, in my opinion.

17:24Jussi Askola:And what would you say about, you mentioned earlier that, you know, the bearishness in the REIT market was very much a result from, you know, higher interest rates. Now that we see higher interest rates likely coming again, what are your thoughts on the space? Well, the interesting thing is that despite the 10-year treasury rising quite a bit in 2026, REITs have actually had a very strong year so far, rising by 10 % on average so far in 2026. And we just, we haven't even completed the first half of the year. So this shows that REITs are becoming more and more independent now of what happens to interest rates.

18:01And I think that there are two reasons for this. The first one is that growing number of investors now have recognized that REITs truly aren't quite as impacted by interest rates as they seem to believe in recent years. You know, despite interest rates rising significantly in 2022, 2023, REITs have actually kept growing their cash flows and dividends steadily in the past few years. And that's simply because REIT leverage is historically low. It's at just about 35 % LTVs on average. And that's very conservative. It's the equivalent of buying your own home with a 65 % down payment. And so because REITs use solely leverage, the impact of higher interest rates really isn't that significant, especially considering that most of their debt has a fixed interest rate and long debt maturities that are well staggered.

18:48So that's the first thing. And then the second reason why I think that REITs have been rising now, specifically in 2026, is because interest rates obviously are one factor and all else held equal. Higher interest rates are a negative thing. However, all else is not equal. There are other factors, and one big one now in 2026 is the AI immunity trade. And the investment firm Hasselview, which is a major institutional investor, has, according to them, they have explained that REITs are now greatly benefiting from capital rotation from AI-disrupted sectors like SaaS companies towards AI-resistant sectors like REITs.

19:27REITs as investors, you know, are coming to the conclusion that AI could be a huge headwind for a growing number of businesses over the long run. And they look to invest more heavily in AI resistant sectors. And I don't think there's anything better than REITs from that perspective, given that they own real assets that, you know, remain essential to the survival and prosperity of our society. They are limited in supply. You know, AI will not change the fact that we'll always need a roof over our head. And so I think that now we're seeing a growing amount of capital make its way into the rate sector as investors look to protect their portfolios from AI disruption.

20:05And given that we're still very early in the AI revolution, I don't think that this will change anytime soon. I think we're still in the very beginning of this. And given that valuations are still low, I think that there is further upside, even if interest rates surge a bit from here.

20:20Jussi Askola:When it comes to the AI data center conversation, are you paying attention to like earnings calls from those companies in the AI space? Is that something that you're looking at on a micro level, on a macro level? How are you thinking about that, analyzing it? We do, yes. With that said, I think that the issue, unfortunately, today with data center REITs is that, again, the market is not stupid. and seeing this opportunity. It knows that AI is driving a significant demand for these data centers. It's leading to rapid rent growth. And so naturally, these data center rates have already rated a lot higher and now trade at fairly expensive multiples.

21:01And so rather than chase what's hot in the moment, we like to invest in other property sectors that we view as also beneficiaries of the AI revolution, but where it's not so obvious. And good examples of that could be, as an example, cell towers. I expect the AI revolution to lead to faster data consumption growth over the long run as people are using apps like ChatGPT on their phone. It's very data intensive. We will see also a growing number of cell driving vehicles, eventually humanoid robots. All of this will lead to an explosion of data consumption, forcing the tenants of cell tower rates to invest more heavily in this infrastructure and leading to higher rents over time.

21:42So cell tower rates would also benefit. It's not just data center rates. And there are other property sectors that should also benefit. Cell towers are an example, in my opinion, because I expect the AI revolution to lead to significant labor market disruption over the coming years, coming decades. As people lose their job, this leads to increased mobility. And mobility is one of the leading drivers of demand for self-storage because as people lose their job and they need to move to find a new one, this creates demand for self-storage. So I think self-storage rates could also benefit. Another example that could benefit that's not so obvious are timberland rates, in my opinion, because AI leads to very significant demand for electricity.