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BERKO: REITs and Defense

Dear Mr. Berko: We seek increasing dividend income, along with conservative long-term capital growth. Our new stockbroker advises us to sell 100 of our 200 shares of Apple and all of our Vanguard Total Bond Market ETF shares. He wants us to buy shares of Digital Realty Trust and General Dynamics with the proceeds. Please tell us what you think of these trades. — LS, Oklahoma City

Dear LS: Money is the root of all wealth, and your broker may have picked the right stocks to participate in the Trump economy and increase your wealth. What took you so long to sell that bond fund? Bond funds will surely perform poorly in a market with rising interest rates, and Apple’s future growth may be disappointing because the company has lost some of its core.
Digital Realty (DLR-$95) is a real estate investment trust. REITs have been laggards since October because investors fear that higher interest rates will infect dividends and earnings growth. Logically, that makes sense; higher rates mean higher borrowing costs, which translate into lower earnings. Well, I’ve been a serious investor for 54 years and observed that REITs actually perform well during periods of rising rates. That’s logical, too, because higher rates often follow improving economic growth, which translates into higher occupancy rates, making it easier for REITs to raise rents. Although, in today’s market economy, I’d shy away from hotel REITs, which are facing a glut of new construction plus competition from Airbnb. And stay away from apartment REITs, especially those that are required to include low-income housing units in their upscale properties to qualify for zoning and mortgage money.
Your broker’s recommendation of Digital Realty seems to be spot on. DLR owns, acquires, develops and manages technology-related properties, including internet gateway data centers and technology manufacturing facilities. DLR owns 162 properties in 11 countries, spanning four continents, and boasts a 92.5 percent occupancy rate. The $3.52 dividend, yielding 3.7 percent, has been raised in each of the past 10 years, and revenues have exploded to $2.1 billion in 2016 from $281 million in 2006. Earlier this year, DLR acquired an $875 million portfolio from Equinix, which included eight high-quality data centers in London, Paris, Amsterdam and Frankfurt. And the 692 clients using these centers are new customers for DLR. DLR continues to see revenue growth on the Continent, even with Britain’s decision to exit the European Union. Meanwhile, net profit margins have impressively improved in each of the past 10 years, from 7.5 percent in 2006 to an expected 14.3 percent this year; and some analysts expect 18 percent by 2021, when DLR’s revenues may reach $3 billion. This is a solid growth REIT! Vanguard, American Funds, BlackRock, Fidelity, State Street and Bank of America probably agree, because they own 35 percent of DLR’s 160 million shares. This is a grand issue paying a fine dividend, and Wall Street thinks it could trade at the $130 level in the coming four years. Buy it.
General Dynamics (GD-$175) is a $31 billion aerospace and defense company with 101,000 employees. Its information systems and technology business group provides technologies, products and services that support a wide range of secure mobile communications systems. Its marine systems group designs, builds and supports submarines and surface ships for the U.S. Navy. Its combat systems group is a global leader in tracked and wheeled military vehicles, and it also produces high-performance weapons systems and munitions. Finally, GD’s aerospace group has a solid reputation for superior aircraft design, quality, performance and reliability.
All this morphs into potentially impressive revenue and earnings growth. The $3.04 dividend yields 1.9 percent and has been raised in each of the past 18 years. Net profit margins of 9.4 percent are at their highest level, and long-term debt has declined by over 50 percent in the past few years. Analysts believe that defense spending will be encouraged by the Trump administration, and GD looks to be the best pure-play company among defense contractors, with a return on equity over 25 percent. Some expect GD to split 3-for-1 in 2017 and foresee shares of the split stock trading between $80 and $85. Buy it.
Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775, or email him at mjberko@yahoo.com. To find out more about Malcolm Berko and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at www.creators.com.
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