Net Lease REIT ETF sees rapid recovery on back of strong fundamentals
Fundamental Income’s net lease ETF, NETL, has endured a range of challenges over recent months, but its strong fundamentals are now driving its asset flows back up.
Alexi Panagiotakopoulos, partner at Fundamental Income, explains that the product came out of the gates in March 2019 with USD50 million in assets, raised in the first 10 months. By February 2020, NETL was standing at USD50 million but with the arrival of the pandemic, as Panagiotakopoulos says, ‘everything melted down’.
“The behavioural bias was that anything that had retail or real estate or foot traffic-related parts of the portfolio such as hotels, malls and office buildings was treated exactly the same and thrown out, like the baby with the bath water,” he says.
NETL saw its price halve between February and March, despite its portfolio being weighted towards uniquely positioned, yet lesser known, net lease REITs. Net lease REITs are a USD130 billion subset of the REIT business model, buying only single-tenant, free-standing properties such as industrial buildings, grocery stores, drive-thru restaurants, and healthcare properties leased to tenants who pay their rent as well as the property expenses. The net lease REIT only has to collect the rent, so it’s a relatively predictable long-term stream of cash flow.
This distinction was lost to investors in commercial property as the pandemic hit. “No one knew what was going to happen, so we were down over 50 percent, just as badly hit as mall REITs or multi-tenant office REITs,” Panagiotakopoulos says.
“The net lease business is highly dependent on consumer behaviour but we are trying to change people’s perception who see shopping malls and net lease as the same thing.”
The argument seems to be working as assets in NETL have shot back up from the low of USD26 million to USD67 million.
“We have snapped back substantially faster that the broad REIT market,” Panagiotakopoulos says. “People have realised that the cash flow has sustained and that this entire ETF is based on long term corporate contracts and corporate credit.”
Panagiotakopoulos notes that the companies who have taken out the leases have innovated and figured out how to work in a lockdown environment. “Some firms have enjoyed record online sales and net lease is not just restaurants and gyms but also industrial distribution and manufacturing – the real estate of America,” he says.
“Whether there is a pandemic or not, you still fill your car with gas, grab a coffee at Starbucks, sit on the patio of a restaurant, buy food and drop your kid off at day care. All of those properties are mostly owned by net lease REITS,” he says.
The average length of a lease in net lease REITS is 13 years, he says, and is currently yielding around 4.3 per cent. Net lease REIT rent collection has improved sequentially from a low of 65 per cent in April, reporting upwards of 96 per cent in October through December as ‘non-essential’ tenants reopened their doors.
Of the 25 net lease REITs in the strategy, 14 carry publicly rated corporate debt, 12 of which command an investment-grade bond rating from at least one of the three major credit ratings agencies.
“Companies are obligated to remain in their spaces and need those spaces to make money,” he says, with occupancy standing at 98.9 per cent.
“As vaccines roll-out we expect this to continue to perform as it should. Broad risk factors are always concerning but net lease was built to be diversified.”
NETL is diversified across 25 different publicly traded REITs, 40 different industries and north of 3,000 tenants. “Because of the diversification we are able to constrain concentration risks,” Panagiotakopoulos says. “The largest exposure to any one tenant is less than 3 per cent and less than 20 per cent to any one industry and less than 5 per cent geographically, except for Texas.”