A REIT Pair Trade that Could Yield 30%

American Realty Capital Trust (ARCT) is a REIT that owns commercial properties with triple net leases. ARCT was a private REIT that went public in March although there was no IPO. On March 1 the shares started trading and private holders were able to sell their shares on the public market.

When ARCT opened for trading it traded much cheaper than other comparable triple net lease REITs. It still trades at a big discount to its peers today. The most expensive stock in the triple net lease sector is  Realty Income Corp (O). Below are some comps:

ARCT trades roughly 30% cheaper than O, has better tenants and longer lease terms. It is not even a contest deciding which is the better investment. I believe the reason for the discount is that ARCT is below the radar because of the manner in which it came public. I believe there are a number of catalysts on the horizon that will close the valuation gap between these two REITs:

  • ARCT will likely be added to the MSCI US  REIT Index(RMZ) in  November. This is the main US REIT index and is considered to be the benchmark.

  • Jana Partners recently filed a 6.2 million share position and is now the largest shareholder. This may bring attention to the stock as well.

  • ARCT should receive more sell side coverage in the next few months.

  • As ARCT reports more quarters and gains analyst coverage it should start to screen very well. Many dividend investors use stock screens.

The 30% valuation gap between ARCT and O is unwarranted. There are numerous catalysts on the horizon that may serve to close this gap. Hence, I am long ARCT and short O.


Monday links: judging deals | Abnormal Returns said...

[...] An interesting REIT pairs trade.  (Capital Observer) [...]

Bruno Wu 吳本浩 said...

Thanks for your insights. I used to work in the real estate PE industry and have looked at triple-net lease REITs before. 

Question: How do you know that ARCT will most likely be included into the MSCI REIT index in November?

Tsachy Mishal said...

That is when they are eligible. They have to be trading for at least three months in order to be added. The next time the RMZ makes additions/deletions is in November.