Realty Income Corporation’s (NYSE:O) year-over-year slump echoes the systematic headwinds embedded in its asset class. The real estate investment trust (REIT) has shed approximately 10% of its market value in the past year, which goes against the grain of its “throughout the cycle” business model. At first glance, key metrics suggest that Realty Income is unlikely to recover its recent losses. However, Realty Income released a splendid bit of news earlier this week, revealing a stellar first-quarter earnings report in which it surpassed its revenue target by $160 million.
Naturally, the question now becomes, will Realty Income’s latest financial results lead to a pivotal point? After examining a broad range of in-depth variables, I decided that I’m neutral about Realty Income’s prospects, as its fundamental metrics and its recent capital structure decisions outweigh the positives shared via its first-quarter earnings report. Let’s examine Realty Income in further detail.
Making Sense of O Stock’s Recent Performance
For those unaware, Realty Income Corporation primarily functions as a triple-net retail REIT. The fund’s portfolio spans more than 15,450 properties, has an occupancy rate of 98.6%, and typically maintains a cash capitalization rate above 7%. Moreover, Realty Income Corporation is dubbed the monthly dividend company due to its reliable monthly dividend payouts. So, in essence, this REIT is considered a powerhouse.
As mentioned in the introduction, systematic headwinds have contributed to Realty Income’s recent slump. For example, a higher-for-longer interest rate environment has compressed commercial real estate valuations. Moreover, the uncertain economic climate has contributed to higher real estate risk premiums, concurrently downgrading REIT valuations.
Furthermore, idiosyncratic concerns likely contributed to Realty Income’s sluggish performance. For instance, Realty Income resumed its capital roadmap. It raised approximately $1.8 billion in debt and equity combined during its first quarter, which raises eyebrows, given the high cost of capital environment. Although some of the proceeds were used to repay debt and accretive investment opportunities exist, a need for external liquidity paired with an uncertain economic climate likely attaches headwinds to Realty Income’s market price.
Realty Income Reports Strong Q1 Earnings
Realty Income Corporation’s first-quarter earnings report provides key talking points. The company’s adjusted funds from operations settled at $862.9 million, while its net income reached $129.7 million.
Although its headline results are telling, the focal point of its report includes news regarding its Spirit Realty acquisition. Realty Income Corporation acquired Spirit Realty in a stock-for-stock deal worth approximately $9.3 billion, which adds to Realty Income’s single-tenants triple-net portfolio. The acquisition onboards noteworthy synergies. However, whether it will be accretive remains to be seen.
Furthermore, Realty Income completed direct acquisitions during its first quarter. The fund invested $598 million at a going-in cash yield of 7.8%, conveying a series of tactical bets.
Lastly, Realty Income guided towards same-store rental growth of 1% for the remainder of its fiscal year, which, if unabated, provides its investors with much to cheer about, considering the challenges within the current real estate market.
Key Fundamental and Valuation Metrics Cast Doubt
A juxtaposition exists between Realty Income Corporations’ qualitative headwinds, lending the opportunity to examine its fundamental metrics to establish ground truth.
Upon further examination, it is revealed that Realty Income likely doesn’t present fundamental value. For example, its rents-to-average-gross-properties ratio of 11.86% is below the sector median of 12.96%, indicating a lack of property-specific gross yield. Furthermore, Realty Income’s price-to-funds-from-operations ratio of 13.8x is in line with the sector median of 13.0x, while its forward dividend yield of 5.6% isn’t drastically higher than the sector median of 4.67%.
In a nutshell, a relative analysis of its fundamental metrics paired with the aforementioned qualitative factors shows that Realty Income is likely what’s called a market perform asset instead of a market outperform asset.
A Technical Analysis of Realty Income Paints Two Pictures
Assessing factors such as market sentiment and investor psychology has gained prominence among astute investors. Therefore, observing technical indicators is essential to a holistic investment analysis.
Realty Income Corporation’s standout technical indicator is its simple moving average. The REIT recently breached its 10-, 50-, 100-, and 200-day moving averages, suggesting a momentum trend has shaped. Additionally, Realty Income’s Put/Call ratio of 0.69 reflects optimism from short-term traders.
It is critical to note that momentum trends and options activity can be countercyclical. As such, looking for structural breaks would be wise, especially as Realty Income’s fundamentals are on a knife’s edge.
Is O Stock a Buy, According to Analysts?
Turning to Wall Street, Realty Income Corporation earns a Moderate Buy consensus rating based on three Buys and five Holds assigned in the past three months. The average O stock price target of $58.75 implies 6.8% upside potential.
Concluding Thoughts
A closer look at Realty Income Corporation’s first-quarter earnings report suggests that its operations are robust. However, systematic headwinds paired with questionable fundamental metrics question whether the REIT will garner noteworthy support from investors in the coming quarters. As such, it is unlikely that Realty Income Corporation will recover from its year-over-year slump anytime soon, especially considering its moderate Wall Street price target.
Disclosure
