LondonMetric Property (LSE:LMP) is a relatively new entry to my income portfolio. But the performance hasn’t been terrific of late. In fact, over the last 12 months, the share price has tumbled almost 20%, pushing the dividend yield to 5.4%.
At first glance, this sort of downward momentum would indicate that trouble is brewing. But while there are some valid concerns, the underlying business actually seems to be thriving. So much so that management just bumped up dividends again for the eighth year in a row!
A lower share price paired with higher shareholder payouts has boosted the yield. So, is now the time to increase my stake? Let’s explore.
Fear surrounding real estate in 2023
With interest rates still being hiked by the Bank of England, investors are understandably getting nervous about the real estate sector. After all, this industry is highly capital intensive, with most companies operating on leveraged balance sheets.
LondonMetric is no exception. And as of March this year, the group has just over £1bn in mortgages and other debt equivalents.
The fear is that if tenants cannot pay rent on time, landlords will be forced to sell properties at subpar prices to keep up with mortgage payments. This has started to happen in some instances, especially when it comes to commercial office space. In the case of LondonMetric, management has only exacerbated this risk with the recent and seemingly expensive acquisition of CT Property Trust for £198.6m.
A shrinking property portfolio is bad enough. But when paired with reduced cash flow, the dividend yield starts to look less reliable. And should a dividend cut be announced, real estate business share prices could tumble even further.
Large yields aren’t always a red flag
I can’t deny that a higher interest rate environment creates headaches for firms like LondonMetric. However, I believe this business has been caught in the crossfire of fearful investors.
The real estate sector is experiencing a contraction. However, this group specialises mostly in prime-located logistics infrastructure such as warehouses. And demand for these types of commercial properties is actually on the rise.
In fact, despite the unfavourable operating environment, the latest results showed net rental income jumping 11% to £144.1m. And excluding the adverse movements in property valuations (which don’t affect cash flow), the earnings per share also increased even with some equity dilution.
The group’s cash flow from operations covers both interest payments and shareholder dividends with around £19m to spare. And with 93% of the loan book hedged against further rate hikes, the current 5.4% yield looks perfectly healthy, in my eyes.
The bottom line
Real estate investment trusts like LondonMetric Property often trade close to the expected valuation of their asset portfolio. That’s why shares have been hit hard of late.
However, as an investor interested in long-term income, cash flow is ultimately what matters to me. And that’s something the firm seems to be generating with little trouble, thanks to its 99.1% occupancy.
Therefore, I see the recent drop in share price as an excellent opportunity to snap up more shares for my ISA.
