The meeting was about one thing: figuring out his secret sauce.

It was real. I could reach out and touch it.

I couldn’t read the small print. And he wouldn’t let me take a closer look. But, he assured me, the recipe for success was there.

Around the start of my career in publishing, I flew out to San Diego to meet with Tom Lewis, former CEO of real estate investment trust (REIT) Realty Income.

Founded in 1969, Realty Income (O) has survived multiple market crashes, recessions, and crises. It’s paid a dividend through it all for 52 years… And it’s increased that dividend 119 times since going public in 1994.

Simply put, there isn’t a more reliable company in the entire stock market when it comes to generating bottom-line growth and paying a reliably increasing dividend to shareholders than Realty Income.

I had to figure out what it was about Realty Income that set it apart from its peers in the real estate sector.

To this day, I consider Tom to be a mentor, especially when it comes to understanding and evaluating publicly traded REITs.

So I asked Tom, point blank, how do you produce these results that are the envy of all your peers?

I’ll never forget his response.

He winked at me as he reached into a desk drawer and pulled out that piece of paper.

And although he wouldn’t let me read it all those years ago, I eventually figured out what it was.

In a phrase: stress testing.

At the Intelligent Income Daily, we’re all about putting potential investments to the test to find which will crumble in tough times and which will thrive and deliver you safe, reliable income for years to come.

Right now, this practice is more important than ever as fear and volatility run rampant in the overall market. You want to make sure your chosen investments have what it takes to make it through all kinds of market conditions.

Today, I’m going to show you how to use this “stress test” process to your advantage when making sleep well at night (SWAN) REIT investments with a simple checklist.

The Three-Step Stress Test

Realty Income calls itself “The Monthly Dividend Company.”

Just last week, on March 14, 2023, it raised its dividend another 0.2%. That marks its 633rd consecutive monthly dividend payment.

This dividend growth doesn’t happen by accident.

Realty Income has produced positive adjusted funds-from-operations per share (AFFO/S, a common metric to value REITs) growth during 26 out of the last 27 years.

In fact, Realty Income’s reliable dividend has been the cherry on top of its total returns over the years.

Since its initial public offering in 1994, Realty Income stock has produced a total return compound annual growth rate (CAGR) of 14.4%.

These stellar results are why I asked Tom about Realty Income’s secret sauce. Clearly, he’s doing something right. And I was determined to find out…

Based on years of research after that fateful day, I’ve come up with a list of stress tests I’m certain Realty Income’s management team are running. And you can apply them to any REIT to see whether it has lasting durability.

At the end of the day, they can be boiled down to these three metrics:

  • Diversification: Maintaining a well-diversified property portfolio, both in terms of geographic location and single tenant rent concentration, allows a REIT to mitigate unforeseen default risks.

  • Tenant quality: By focusing on quality tenants that are ranked highly by credit agencies, a REIT has the best chance of weathering recessions and bear markets without experiencing rent collection issues.

  • Cost of capital: Maintaining a strong balance sheet and earning a high credit rating allows REITs to borrow money at low rates. This allows management to generate attractive spreads between its interest expenses and its capitalization rates.

And how does Realty Income stack up?

  • Diversification: Realty Income owns over 12,200 properties spanning U.S., U.K., and Spain. It rents these buildings out to more than 1,200 tenants across numerous sectors and industries.

    Realty Income has also invested approximately $7 billion into European real estate in recent years. That gives it exposure to another growth market while taking advantage of the relatively lower interest rates across the Atlantic.

  • Tenant quality: In 2009, only one of Realty Income’s top-20 tenants carried an investment-grade weighting.

    Today, 12 of the company’s top 20 tenants are investment-grade companies.

    Plus, while other REITs suffered during the COVID-19 crash, Realty Income’s strict criteria when selecting tenants allowed it to maintain occupancy ratios of 97.9% and 98.5% in 2020 and 2021, respectively.

    Today, that figure sits at 99%.

  • Cost of capital: Realty Income is one of just seven REITs with an A-rated balance sheet. This enhances its ability to make large-scale deals and increases the profitability of its investments.

    The company’s debt to market cap is only 30% and at the end of its most recent quarter, Realty Income had approximately $1.7 billion of liquidity on hand to continue to make acquisitions and invest in new cash flow producing properties.

Now Is the Time to Avoid Risk

Stress testing – that is, planning for downturns and assessing risk – might seem like a simple recipe for success. But you’d be surprised to see how many businesses don’t do it.

It’s obvious to me that the executives at the recent failing regional banks didn’t perform the proper stress testing of their asset portfolios. That ultimately lead to their demise… and the fallout we continue to see.

It takes a lot of discipline and patience to follow these three simple rules. So make sure you own the ones that do.

As for us, stress testing has been and remains a priority. We run all potential investments through these tests and other crucial metrics in our Intelligent Income Investor service. That’s become part of our own secret sauce.

Subscribers have access to our REIT Portfolio, which includes my other top picks which have the similar long-term compounding potential to Realty Income. Click here to get the name of one of our favorite stress-tested picks for free, and to find out more about our recession-resistant REIT portfolio.

Happy SWAN investing,

Brad Thomas
Editor, Intelligent Income Daily