Morningstar: REIT valuations are 'just nuts'

Dividend investing has been in vogue for some time now. One area of the dividend universe that investors may want to steer clear of, however, is real estate investment trusts. “Today we're seeing valuations that are just nuts,” said Josh Peters, editor of the Morningstar DividendInvestor newsletter. The increased valuations have driven down yields on REITs, which are primarily coveted for their income feature, to spreads above the 10-year Treasury that are overall “scary,” Mr. Peters said. “With Treasuries at 2%, you would expect REITs to be yielding 6, 7, or 8%," he said. "But no, you're getting 2 to 3%. The $2 billion SPDR Dow Jones REIT ETF Ticker:(RWR), which tracks an index of the largest U.S. REITs, has a yield of 2.8% today. Individually, there are a number of REITs trading in the 4% range, but the big names, such as Simon Property Group Inc. Ticker:(SPG) and Public Storage Ticker:(PSA), are yielding around 3%. The companies are being priced like growth vehicles, when, in reality, they're not great at growth, said Mr. Peters. “Investors need to think about REITs as income machines,” he said. “They can be great sources of total return too — if you can get them at the right price.” One sector Mr. Peters does like is health care, particularly pharmaceutical companies, which he said are currently undervalued and less sensitive to interest rate movements than REITs are.