Most income stocks have seen their values trimmed by rising interest rates. I can understand the frustration of investors at seeing the value of their portfolio decline, but there's another side to this story: It allows you to buy good-quality stocks with enhanced yields at bargain prices, explains Gordon Pape, editor of The Income Investor.
My latest top stock pick of the month is Brookfield Property Partners (BPY). This is a limited partnership which is majority owned by Toronto-based Brookfield Asset Management.
It is structured in much the same way as two other successful Income Investor recommendations: Brookfield Infrastructure LP (BIP) and Brookfield Energy Partners (BEP). 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.
Brookfield Property Partners is a diversified global real estate company. 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.
Management seeks to do this by acquiring high-quality assets in resilient and dynamic markets; its portfolio features some of the world's best-known commercial properties such as Brookfield Place in Toronto, Canary Wharf in London, and Potsdamer Platz in Berlin.
This is one of the world's largest real estate operations, with broad diversification both geographically and by sector. So, you're investing in a quality asset at a time when it's on sale. For income investors, the major attraction is the attractive 6.3% yield.
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.
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% of the total distribution was in the form of eligible dividends and about 25% 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.
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.
