BMO Real Estate Investments 24 February 2021

BMO Real Estate Investments (BREI) owns a portfolio of UK commercial property with strong biases to the industrials sector and the South East of England. The manager, Peter Lowe, looks for high quality assets, meaning properties which should be in demand over the course of an economic cycle thanks to strong location, flexibility of use and ESG credentials.

Having cut the dividend by half early in the pandemic, the board has recently increased it back to roughly two thirds of pre-pandemic levels as rent collection has been stronger than initially feared. Annualising the latest payment gives a yield of 4.6% on the current share price. As we discuss in the dividend section, the board acknowledges there is still uncertainty around the course of the recovery and therefore rental prospects, but this new dividend is more than covered by net rental income, assuming current rent collection trends are maintained.

We believe that this visibility on the dividend has helped BREI’s discount to come in from around 40% to c. 22.5%. This is still wider than the average of the generalist commercial property trusts of 21%. The NAV performance of the trust has been strong versus generalist peers since Peter took over in 2016. Furthermore, capital values on the portfolio saw only modest falls in 2020 despite the severe impact of the pandemic on the property sector. This was helped by the strong bias to industrials and away from high street retail and shopping centres.

BREI has net gearing of 36%. Structural debt is offset by £14m of cash and the company also has an undrawn revolving credit facility of £20m.

We think the recovery in the dividend is a significant vote of confidence by the board in the ability of the manager to maintain a relatively high degree of rent collection despite the crisis. If, as we all hope, restrictions on economic activity are lifted in the coming months then the financial position of many tenants should improve, which should hopefully shore up rental collection further. The 94% rent collection achieved over the past three quarters is indicative of a resilience which we think might surprise some.

Given the modest falls to capital values seen last year and the low exposure to standard retail sub-sectors, we think the current 23% discount to NAV seems extreme if interpreted as reflecting doubt about capital values. However, it may be that the dividend yield is driving the share price, which could be the reason for the sharp closing of the discount when the improved dividend payout was announced. In this case, a further dividend increase (or a fall in income available elsewhere) seem the most likely catalysts for a re-rating. As we discuss in the dividend section, we think the former is possible given the sectoral positioning of the trust and rent collection trends. As for the latter, central banks are likely to keep rates low to aid the recovery, and credit markets have already re-rated to very tight spreads. Yields on equities are generally low, with the FTSE 100 index yielding just 2.8%, suggesting that BREI’s yield of 4.6% should remain attractive.