Interview With Bill Chen, Managing Partner Of Rhizome Partners

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Interview With Bill Chen, Managing Partner Of Rhizone Partners

I recently had the opportunity to interview Bill Chen, Managing Partner of Rhizome Partners. He is one of the few active REIT investors that I follow closely.

I first came across him on X, where he regularly shares his views on various REITs. It quickly became clear that we share a similar investment approach and many of the same positions.

In what follows, he explains why he believes REITs are currently offering a historic opportunity and shares his thoughts on several REITs, including:

• Whitestone REIT (WSR)

• Alexander’s (ALX)

• Camden Property Trust (CPT)

• CubeSmart (CUBE)

• Alexandria Real Estate (ARE)

• Clipper Realty (CLPR)

• Centerspace (CSR)

• InvenTrust (IVT)

• H&R REIT (HR.UN:CA)

• BSR Real Estate Investment Trust (HOM.U:CA)

• Rexford Indusrial (REXR)

• Shurgard (SHUR / SSSAF)

If you find this Q&A interesting, you can follow him on X by clicking here, or get in touch with me via e-mail at bill@rhizomepartners.com

MOI Global

REIT Investment Q&A

1) Why do you think investors should consider REITs today?

This is the most interesting REIT investing environment I can remember since the Great Financial Crisis. In simple terms, investors can buy apartments, self storage, warehouses, office, hospitality, and retail real estate at 70 to 80 cents on the dollar versus the private market on an unlevered basis. Factoring in leverage, stocks are trading at 50 to 70 cents on the dollar versus the private markets. On a look-through basis, investors get diversification, low transaction costs, and generally better asset quality than the private market.

This is a great time to build a truly passive income portfolio that can grow distributions and likely beat inflation over the long run. It is also a great time to invest in smaller REITs that are likely take-private targets for private equity firms like Blackstone (BX). Since late 2024, Blackstone alone has bought two grocery-anchored shopping centers from our portfolio: Retail Opportunity Investment Corp (ROIC) and Alexander and Baldwin (ALEX). Reuters just reported that Blackstone is interested in buying a third grocery-anchored shopping center in our portfolio called Whitestone REIT (WSR). As a result, Whitestone has hired Bank of America to run a process. Valuations have gotten so cheap in the public REIT space that better-capitalized private equity firms like Blackstone, Cortland, and Morgan Properties have become much more active in buying public REITs at meaningful premiums to the unaffected price.

Another factor to consider is the high dividend yields of public REITs. There are many high-quality REITs with attractive assets paying 4.5% to 6.0% annual dividends that could grow distributions by 3% to 5% for a decade. Compared to the static yield of the ten-year treasury at 4.2% to 4.3%, blue-chip REITs offer much better inflation protection over the long run. It is important to point out that these REITs are not distressed and do not deploy a large amount of leverage. They often cover their interest expense three to seven times. This is significantly safer than the 1.25x debt service coverage ratio that many lenders to private real estate investments require at origination.

In our internal model, we can afford to be picky. We generally add to our REIT investments when our model shows a three-year Internal Rate of Return exceeding 20%. We are finding plenty of public REITs that meet these criteria and we are fully invested. Our portfolio tends to provide pleasant surprises with companies announcing take-privates at 20% to 40% premiums to the last traded price. In the past year, we have actively reinvested the proceeds from buyouts because the opportunity set is so plentiful today.

If you are enterprising like us, you can find REITs like Alexander’s (ALX) paying out a 9% dividend at our cost basis. Alexander’s owns the Bloomberg Global Headquarters building in New York City, which has a NNN lease expiring in 2040.

In summary, public REITs today are cheap, offer attractive current yields, and provide long-term dividend growth. We believe public REITs offer great risk-adjusted returns.

2) What is your approach to REIT investing, and what sets it apart?

We take an owner’s approach to investing in public REITs. We often tour the properties ourselves. Since we do not control the REITs, we pay close attention to management incentives and capital allocation track records. We focus on what management actually does instead of what they say. We are careful to build relationships with investors who think the same way.

We focus on figuring out how undervalued REITs are relative to private market value rather than figuring out whether a REIT will beat sell-side analysts’ earnings estimates. This is a very important structural advantage that most people do not understand. We often hear other investors say, “I cannot own that REIT because nothing will happen this year. I cannot afford to underperform our benchmark.” Since our investors evaluate our performance over three to five years, we can take a longer view and have been rewarded for it.

Over the course of a decade and a half, we have built a skillset that resembles mixed martial arts fighters. Depending on the opportunity set, we can invest in deeply undervalued large-cap REITs, smaller REITs that are perfect for private equity buyouts, or REITs that are selling assets to reduce complexity and leverage. For example, we shifted our focus from owning undervalued large-cap REITs to allocating more toward private equity buyout targets in the past twelve months.

3) You have written a lot about apartment REITs. What makes their risk-reward particularly compelling today?

Valuations of public apartment REITs are incredibly attractive today. After the Fed raised interest rates in 2022, there was a period when investors debated appropriate cap rates for apartments in the new interest rate regime. After a few years, we now have plenty of data points confirming that newer-vintage apartments (under 20 years old) in Coastal and Sunbelt markets generally trade at high 4% to mid 5% cap rates. Older properties in the Midwest can trade above a 6.0% cap rate. Apartment REITs such as Camden (CPT) trade at almost a 7% cap rate today, representing a 150 to 200 basis point spread over comparable private market transactions. This is the kind of discount that private apartment investors brag about, yet investors can buy tens of millions of Camden each day at a huge discount to private market value.

Private equity firms are also the most active buyers of apartment REITs. An apartment REIT auction often attracts the deepest buyer pool with the tightest spread between the winner and the rest of the top five bidders.

It is also worth noting that we are at the tail end of an elevated supply cycle. The apartment sector in the Sunbelt has spent the past two to three years absorbing elevated new supply. Most of the new supply has been delivered and largely absorbed at this point, except for a few unique markets like Austin. Yet there are very limited new starts for apartments. This means we are likely entering a period of two to four years where the market will deliver very small amounts of new apartment buildings. We believe landlords will regain the ability to raise rents in the next twelve months.

Given depressed sentiment, attractive valuations, and limited new supply in the coming years, we think this is a great setup for apartment REITs.

4) We appear to share investments in CubeSmart (CUBE) and Whitestone REIT (WSR). What do you find most attractive about these names?

Both CUBE and WSR own some of the best assets in their respective sectors.

CUBE owns a portfolio of self storage in high-barrier-to-entry markets like New York City, Long Island, and New Jersey. This unique dynamic is reflected in the highest rent per square foot among public self-storage REITs at $23. Today, CUBE trades at a roughly 6.6% cap rate and pays a 5.6% dividend. We believe CUBE is a great addition to any passive income portfolio. Public Storage just announced the acquisition of National Storage Affiliates Trust in a $10.5 billion deal. We believe CUBE could be acquired by Public Storage or Extra Space since it is trading at an attractive valuation and would improve the overall asset quality of the acquirer.

We own Whitestone because it owns one of the highest-quality grocery-anchored shopping center portfolios in the country. It is relatively unknown to most investors that Whitestone’s one-mile average household income is roughly $160,000. It also traded at very high cap rates at our purchase price.

We made a conscious decision to allocate heavily to grocery-anchored shopping center REITs in the past couple of years. We noticed that Retail Opportunity Investment Corp, Alexander and Baldwin, and Whitestone all traded at high single-digit cap rates, yet they were all growing their NOI at around 4% per year through a combination of annual escalations, lease renewal spreads of over 10%, and new lease spreads of around 20%. Unlike apartments, self storage, and warehouses, the industry did not overbuild retail real estate during the “free money” period of 2021.

While we have not spoken to anyone at Blackstone, they likely saw the same opportunity: undervaluation, healthy NOI growth, and limited new supply. As a result, Blackstone has already bought two of these grocery-anchored shopping center REITs in our portfolio and reportedly wants to buy the last one, Whitestone.

5) I noticed you also hold a small position in Alexandria (ARE). What do you think the market is getting wrong about it?

We have a very small starter position in ARE. It is essentially a tracker at this point. But we like the deep undervaluation and the fact that most of ARE’s real estate is strategically located next to some of the best research universities in the U.S., such as MIT, Duke, Johns Hopkins, and the San Diego biotech ecosystem. In many cases, there are bodies of water that create natural barriers to new supply. We love the dual combination of being tied to the smartest researchers in the U.S. and being supply-constrained.

ARE has significant commitments to new developments and needs to repair its balance sheet. We are taking a wait-and-see approach and may meaningfully increase our position size in the future.

6) Any thoughts on Clipper Realty (CLPR)?

Clipper Realty Trust is an orphaned REIT with a messy, complicated story. Most investors do not understand how rent control and rent regulation in New York City work. I personally own some small apartment buildings in the Queens borough of New York City. We are quite familiar with Clipper’s assets and the rather complex rent regulations of the city. As such, most investors find it difficult and frustrating to own Clipper.

The key takeaway is that the company has done a great job using non-recourse mortgages to finance their properties. Each property is a silo. If one property is impaired, Clipper can simply return the keys to the bank. The company owns a handful of very nice apartment buildings in Manhattan and Brooklyn. Pacific House and Prospect House are brand-new developments. While Clipper may seem overleveraged and low quality at first glance, there is plenty of equity value in their newer apartment buildings that are worth at least double the current trading price. The company is also paying a 12.4% dividend, which most investors believe will be cut soon.

Clipper does own a large rent-regulated apartment portfolio and two office buildings. Investors tend to focus on these lower-quality assets, when in reality these assets have very little equity value. The proper way to value Clipper Realty Trust is to conduct a sum-of-the-parts analysis.

We are considering buying more shares of Clipper, but we are also considering buying more shares of many other REITs at the moment.

7) If you had to guess, which REIT do you think could be the next buyout candidate?

Whitestone has hired Bank of America. We believe there is a greater than 90% chance Whitestone will be sold in the next few months. Centerspace (CSR) has announced a strategic alternatives process, and we believe it will be sold as well.

After Whitestone gets sold, we believe InvenTrust (IVT) would be the logical next target. If you had asked us a couple of months ago, we would have said Veris Residential (VRE), which owns a great portfolio of apartments in Jersey City. But Veris just got bought out by Affinius Capital.

I think H&R REIT (HR.UN:CA) in Canada is slimming down and selling non-core office and retail assets to position itself for a sale. Even CUBE could be bought. BSR Real Estate Investment Trust (HOM.U:CA) could be another buyout candidate. Prologis (PLD) could buy Rexford (REXR), as Prologis trades at a much lower cap rate and is about twelve times the size of Rexford. I think any public REIT under five billion of enterprise value that has persistently underperformed could be a takeout target.

8) Do you look at international REITs at all?

We certainly have a U.S. bias, particularly since we have put boots on the ground domestically. But we have become much more active investing in Canadian REITs recently, as they are ripe to be taken private.

We do own Shurgard (SHUR / SSSAF), a self-storage REIT with European exposure in urban areas. At today’s valuation, we find Shurgard quite interesting, as it trades at 58% of the appraised value reported by the company. We have met with the management team of Vonovia (VNA / VONOY) and we find the cap rate to be too low on an absolute basis. We understand that German interest rates are lower than US Treasuries. Even factoring in differences in interest rates, it is difficult for us to justify paying 5% cap rates in Europe when we can find high quality REITs trading at close to 7% for apartments in the US.

If you find this Q&A interesting, you can get in touch with me via e-mail at bill@rhizomepartners.com

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Analyst’s Disclosure: I/we have a beneficial long position in the shares of all companies held in the CORE PORTFOLIO, RETIREMENT PORTFOLIO, and INTERNATIONAL PORTFOLIO either through stock ownership, options, or other derivatives. We also own a position in FarmTogether. High Yield Landlord® (’HYL’) is managed by Leonberg Research, a subsidiary of Leonberg Capital. All rights are reserved. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. The newsletter is impersonal and subscribers/readers should not make any investment decision without conducting their own due diligence, and consulting their financial advisor about their specific situation. The information is obtained from sources believed to be reliable, but its accuracy cannot be guaranteed. The opinions expressed are those of the publisher and are subject to change without notice. We are a team of five analysts, each contributing distinct perspectives. Nonetheless, Jussi Askola, the leader of the service, is responsible for making the final investment decisions and overseeing the portfolio. We do not always agree with each other, and an investment by Jussi should not be taken as an endorsement by other authors. Past performance is no guarantee of future results. Our portfolio performance data is provided by Interactive Brokers and believed to be accurate but its accuracy has not been audited and cannot be guaranteed. Our portfolio may not be perfectly comparable to the relevant index. It is more concentrated and may at times use margin and/or invest in companies that are not typically included in REIT indexes. Finally, High Yield Landlord is not a licensed securities dealer, broker, US investment adviser, or investment bank. We simply share research on the REIT sector.