Mid-America Apartment Communities Can Withstand Years Of High Interest Rates

Marje

Dear readers/followers,

Recently, tons of group person been asking what will hap to existent property finance trusts, aliases REITs, if liking rates enactment astatine elevated levels for a agelong play of time. While this is not my guidelines lawsuit and I expect the Federal Reserve to trim rates sometime adjacent year, it is decidedly a script which we arsenic investors should consider.

In bid for this script to materialize, ostentation would person to beryllium very sticky, which would unit nan Fed to support liking rates astatine 5% (or possibly moreover higher) for years to come. This would apt lead to a batch of symptom successful nan system and nan market, arsenic net would suffer from a weakening system and a precocious costs of debt. I expect that awesome indexes for illustration nan S&P 500 (SP500) and Nasdaq (COMP.IND) would spell much aliases little sideways, and we could beryllium facing different mislaid decade (meaning that we wouldn't spot caller all-time highs for a very agelong time).

This is simply a scary scenario, particularly for those surviving disconnected their portfolios. The communal schoolhouse of thought is to bargain nan S&P 500 index, which has a dividend output of nether 2%. In bid to beryllium capable to retreat and unrecorded disconnected nan accustomed 4%, 1 has to waste astir 2% worthy of banal each year. This is perfectly sustainable nether normal marketplace conditions but will drain nan portfolio importantly during a mislaid decade. This is why I judge it's important to prioritize income complete maturation successful this portion of nan rhythm and bargain high-dividend banal that will summation nan wide output of nan portfolio specified that if we get a agelong play without important growth, income investors tin unrecorded disconnected their dividends and don't request to waste their stock.

REITs tin thief lick this first portion of nan equation pinch their higher-than-average dividend yields. But we request to make judge that we are buying nan correct ones and astatine nan correct value truthful that we tin upwind a prolonged play of precocious liking rates, should it come. In this article I want to present my methodology to uncovering and evaluating REITs that should beryllium resilient successful nan described scenario, springiness you a model for valuation and springiness an illustration of 1 REIT that I judge should beryllium reasonably resilient - Mid-America Apartment Communities, Inc. (NYSE:MAA).

Methodology

In short, it each comes down to headdress rates and leverage. When we had zero liking rates, a headdress complaint of 4.0% for multifamily was regarded arsenic fair. Now that liking rates person increased, immoderate investors are saying that headdress rates should set one-to-one pinch that increase. So pinch rates now astatine 4%, headdress rates should summation to 8%. Currently, headdress rates person only adjusted marginally, because investors (including me) are somewhat looking done nan play of precocious rates, expecting them to travel down. But I'd reason that moreover if rates enactment astatine nan 4% level forever, headdress rates won't spell to 8%. Let's person a look astatine an illustration to exemplify why.

Suppose a REIT only owns 1 flat that rents for $1,000 a period ($12,000 a year). It bought it for $300,000 and borrowed 30% of that astatine zero rates (of people moreover past they paid a separator to nan bank, but disregard that for simplicity). It is clear that they bought it astatine a 4% headdress complaint and since nan costs of indebtedness is zero, they earned a nett output of 4% aft debt.

Now we want to person a look astatine what will happen, if rates summation to 4%. The flat will still rent for $12,000 a twelvemonth (perhaps much complete clip pinch inflation), but now nan costs of indebtedness will summation to $3,600 a year. In full nan REIT will gain $8,400 truthful a nett output of 2.8% connected its acquisition value (obviously little than nan first 4% nett yield).

The mobility is, really overmuch would personification other salary for this flat successful this higher complaint environment? A logical investor would still want a nett output of 4% connected his money truthful if we disagreement $8,400 by 4% we get a value he's consenting to salary of $210,000. At this value nan investor is paying a 5.7% headdress complaint for nan $12,000 of income that nan flat generates. Not 8%, but 5.7%!

On this level, it's intuitive, but nan mathematics useful precisely nan aforesaid measurement for a REIT that owns thousands of properties. So let's generalize nan formula:

minimum implied headdress complaint I tin salary = my required nett output + liking complaint x LTV connected nan caller acquisition value (i.e., nan $210,000 not nan first $300,000).

For an liking complaint of 4%, nan array beneath presents nett yields based connected nan implied headdress complaint (left column) and implied LTV (top row). For example, if I want a nett output of 4% (which I respect arsenic fair) I tin bargain either a REIT pinch an implied headdress complaint of 5% and an implied LTV of 25% aliases 1 pinch a 6.5% implied headdress complaint and an implied LTV of astir 60%. It's ever a usability of nan value we salary and nan level of indebtedness nan institution has. So now that we cognize what we're looking for successful position of value and debt, let's person a look astatine an existent company.

Created by Author based connected look above

Mid-America Apartment Communities

MAA owns and operates 1 of nan champion residential portfolios successful position of location. Its 282 communities pinch almost 100,000 units are located exclusively successful awesome municipality areas successful nan increasing Sunbelt region, excluding California. I've covered nan affirmative outlook for nan region successful item successful my article connected Camden Property Trust (CPT), truthful I won't repetition myself here.

MAA Investor Presentation

2022 results were awesome for nan company, successful particular, their costs from operations ("FFO") accrued by 14% YoY to $8.20 per share, chiefly driven by same-store NOI summation of 17% YoY and a coagulated 96% occupancy. Effective mean rent per portion accrued by 14.6% YoY to $1,565/month. Going into 2023, nan guidance expects occupancy to beryllium unchangeable and NOI maturation to slow to astir 5.3-7.3%, which is still very coagulated and supra nan expected maturation of astir different REITs.

Like galore of its peers, nan institution has a very progressive improvement arm, which allows it to build properties astatine a importantly little costs (higher headdress rate) compared to buying existing properties connected nan market. MAA presently has 6 communities nether building pinch 2,310 units owed for completion complete nan adjacent 3 years. Similarly to BSR REIT, MAA besides has a redevelopment programme wherever it fundamentally updates each of nan units pinch a caller kitchen, ray fixtures, and flooring. Over nan past 3 years, they person upgraded 30,000 units astatine an mean costs of $6,100 per unit. This generated an mean monthly rent summation of $133 - an awesome 26% cash-on-cash return, though I americium rather skeptical of this, because nan costs to update these units feels very debased based connected my acquisition of what a remodel for illustration that costs.

The REIT has a history of increasing its dividend. Most recently, nan institution announced a 12% summation of its dividend to $5.60 per stock (Q4 2022 Earnings Report). At today's price, this corresponds to a output of 3.4%. With a guardant 2023 FFO expected astir $9 per share, this represents a payout ratio of 62%, which is very sustainable. Going forward, I deliberation they tin proceed to turn their dividend, though astatine a slower pace, apt a spot beneath NOI growth.

MAA Investor Presentation

MAA has an A- rated balance sheet pinch astir $4.4 Billion successful debt, 100% of which is fixed rate, pinch a weighted mean liking complaint of 3.4%. There are important indebtedness maturities of $350-400 Million a twelvemonth successful 2023 and 2024. Since this indebtedness presently has a 4% liking rate, erstwhile it gets refinanced, I estimate that nan complaint connected caller indebtedness will beryllium astir 1-1.5% higher. This will construe into a $10 Million summation successful liking expense. However, pinch complete a cardinal successful NOI, this is hardly significant. Notably, nan full LTV is very low, arsenic we'll spot successful nan valuation conception below.

MAA Q4 Report

Valuation

The REIT trades astatine a P/FFO aggregate of 19.8x. This is decidedly connected nan higher extremity for residential REITs and astir 10% supra its humanities mean aggregate of 18.0x. Compared to peers, nan institution trades astatine a premium - I deliberation immoderate premium is justified, arsenic nan REIT has nary vulnerability to California (vs. Camden), but frankly, nan existent premium seems a small high. Overall, from a comparative valuation standpoint, nan institution seems somewhat connected nan costly side. Consequently, I wouldn't expect a important upside from aggregate description here.

FAST Graphs

With a full NOI of $1.3 Billion successful 2022, nan institution trades astatine an implied feline complaint of 5.5% which is connected par pinch different Sunbelt peers. With $4.4 Billion successful debt, nan implied LTV stands astatine conscionable 19%. The operation of a comparatively inexpensive valuation and debased LTV will make nan REIT very resilient, moreover astatine times of precocious liking rates. In peculiar astatine this valuation, moreover successful a 4% liking complaint environment, investors tin expect nan REIT to gain a patient nett output of astir 4.7% connected their assets (see nan sensitivity array above). This should beryllium capable to screen nan dividend and upwind nan precocious liking complaint environment.

So pinch that said, what tin we reasonably expect from MAA going forward?

• 3.4% dividend output (growing astatine 5-6% per year)
• 6.3% FFO maturation for nan adjacent 2 to 3 years
• no aggregate description arsenic nan institution is reasonably weighted present astatine 19.8x FFO
• -> full return of 9.7% per year.

Remember really I make alpha:

1. start pinch a thesis why a fixed industry/sector should outperform
2. stay overweight successful those sectors for arsenic agelong arsenic nan thesis is valid
3. look for companies pinch sound fundamentals that are either undervalued aliases reasonably weighted pinch exceptional maturation prospects
4. if a institution becomes overvalued, trim nan position and rotate into different stock/sector that is still undervalued
5. if a institution becomes progressively undervalued and nan thesis is still valid, adhd to nan position
6. generate alpha and repeat

My full return past comes from nan dividend yield, EPS growth, and aggregate description arsenic nan valuation normalizes complete time. I ever target a full return successful excess of marketplace returns (>8%) to make alpha.

What things do I look for erstwhile selecting individual stocks to buy?

1. strong and safe fundamentals
2. good guidance teams pinch a way grounds of caring astir shareholders
3. healthy EPS growth
4. well-covered dividend
5. discount comparative to peers and/or humanities adjacent multiples
6. other catalysts.

Verdict

Mid-America Apartment Communities, Inc. is simply a coagulated institution pinch a very bully portfolio. It has a way grounds of increasing its NOI and dividends and will apt proceed to do truthful successful nan future. The institution has a adjacent implied headdress complaint of 5.5% and trades only somewhat supra its humanities adjacent P/FFO arsenic good arsenic nan aggregate of peers. I deliberation you are buying value present and expect nan banal to do good and return 9-10% per twelvemonth going forward.

On apical of this, Mid-America Apartment Communities, Inc. tin service arsenic a bully hedge successful lawsuit liking rates stay elevated for years to travel and wide indexes move sideways. In this scenario, MAA will supply a higher dividend compared to nan scale and acknowledgment to its debased mean and a reasonable implied headdress rate, will proceed to gain a patient nett output of 4.7% moreover successful a precocious liking complaint environment. I deliberation you cannot spell incorrect pinch Mid-America Apartment Communities, Inc. banal and though I don't expect awesome outperformance, I complaint it arsenic a "BUY" present astatine $165 per share.

Active full-time investor pinch a existent property backstage equity background. Disclaimer: I americium not a financial advisor and nary of nan contented I supply connected this website is financial advice. Content is provided for acquisition purposes only.