I have kicked W. P. Carey (WPC) out of my portfolio on Monday after shares have had an extremely good run in 2019. Taking profits in income vehicles that have performed well is the smart thing to do, especially when shares have become widely overbought and overvalued. While I don't think that W. P. Carey's dividend is at risk, I think it is a good time to scale back exposure to high-yielding BDCs and REITs in light of growing downside risks.
W. P. Carey's shares have surged a whopping ~28.0 percent in 2019 on the back of a major stock market rebound after the December 2018 sell-off. According to the Relative Strength Index, or RSI, which flashes a value of 75.02, WPC is now widely overbought, which exposes investors to correction risks.
W. P. Carey's shares are through the roof in 2019. See for yourself.
The increase in share price is driven largely by an improvement in investor sentiment and not due to a fundamental change in W. P. Carey's value proposition, in my opinion.
W. P. Carey - Portfolio Overview
W. P. Carey is a commercial property real estate investment trust with a national real estate platform. At the end of the March quarter, W. P. Carey's real estate portfolio included 1,168 properties reflecting 134 million square feet, which makes WPC one of the largest commercial property owners in the country.
Here's a portfolio snapshot as of the end of March 2019.
I have previously covered W. P. Carey and mentioned a couple of features that made the commercial property REIT a "Buy" at the time: A diversified portfolio, a long-duration lease portfolio (W. P. Carey's weighted-average lease term is in excess of 10 years), and international real estate exposure that made the REIT less reliant on the U.S. economy. All of these factors served to strengthen the REIT's value proposition and they have not materially changed lately.
I still consider W. P. Carey, for instance, to be moderately to highly diversified in terms of property type and industry.
Source: W. P. Carey
One factor that distinguishes W. P. Carey from other domestically-oriented commercial property REITs is that the company has international real estate exposure through its investments in Europe (mainly Germany, Poland, Spain). WPC's international commercial real estate exposure, in my opinion, is, in fact, one of the single biggest selling points for investors that value downside protection more than upside potential.
Source: W.P. Carey
Organic Cash Flow Growth
The majority of W. P. Carey's leases contain rent bump provisions, meaning the REIT's organic cash flow grows automatically each year. 63 percent of W. P. Carey's leases are linked to the Consumer Price Index, or CPI, while 33 percent of leases call for fixed rent increases each year. Rent bump provisions point to organic revenue and cash flow growth throughout the term of the lease.
Source: W. P. Carey
What About The Dividend?
As I suggested in past articles on W. P. Carey, the REIT has a low AFFO-payout ratio and consistently covered its payout with adjusted funds from operations in the last twelve quarters. Hence, the dividend has high quality from a sustainability point of view.
W. P. Carey's dividend is growing slowly, but steadily, and is about as safe as it gets for a commercial property REIT (average AFFO-payout ratio in the last three years: 77 percent).
Source: Achilles Research
Concerns Over Valuation And Investor Sentiment
Earlier in the article, I said that W. P. Carey's share price has risen nearly 30 percent in 2019, and the rate of price appreciation is not sustainable. Shares are now also overbought, as indicated by the Relative Strength Index. From a technical perspective, this is a "Sell" sign.
Looking at W. P. Carey from a valuation perspective, the REIT's shares are also overvalued today.
W. P. Carey expects to earn between $4.95/share and $5.15/share in 2019 in adjusted funds from operations. The guidance implies a 2019e AFFO-multiple of ~16.6x (based on Friday's closing share price of $83.60). I don't like to pay more than 15x adjusted funds from operations for a REIT in order to improve my margin of safety. Paying nearly 17x 2019e AFFO after such a strong increase in price in 2019 translates into an unattractive risk/reward-ratio.
After such a strong increase in price over such a short period of time, W.P. Carey is at risk of a correction which could drive the share price considerably lower. Trade war concerns also still linger in the market and have the potential to drive valuations lower, too.
A U.S. recession, in particular, would hurt W. P. Carey through growing risks to its tenant base. During recessions, companies close unprofitable locations/stores, downsize office space, and consolidate operations in order to save money. During a recession, companies also go out of business, which could put W. P. Carey's cash flow at risk and could lead to a decrease in occupancy rates. While I don't see short-term risks to the dividend, W. P. Carey certainly will be negatively affected by a broad downturn in the U.S. economy. As a result, the risk/reward ratio is no longer attractive for W. P. Carey at today's price point.
While I am giving up a lower cost basis by selling WPC, selling into the strength is the right thing to do. W. P. Carey is overbought and overvalued, which makes for an unattractive value proposition even though the commercial property REIT has a strong, diversified portfolio, and a low-risk dividend. In addition, the stock market is vulnerable to a correction related to a new round of tariffs related to the U.S.-China trade war that escalated throughout May. The smart thing to do is take profits and wait for a lower entry point at a more reasonable valuation during the next market drop.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.