One of the pleasures of my job is hearing from readers that are doing well. Last week, one of them wrote to me, “Thanks, Jim for a great call on IRM. This looks like the one for the long haul and happy to collect that juicy dividend along the way! Another one, please!”

The company he is referring to is Iron Mountain (NYSE: IRM), a real estate investment trust (REIT). I added IRM to the Personal Finance Income Portfolio six months ago when it was trading around $30. It closed last week near $35 after posting solid Q4 and full-year results for 2020.

That works out to a gain of 15.6% in half a year. And that’s in addition to paying an annual dividend yield of more than 7%. Over the same span, the SPDR S&P 500 ETF Trust (SPY) posted a gain of 14.2% and pays a dividend yield of 1.5%.

Normally, REITs do not elicit much passion among my readers. These entities borrow money to buy properties that generate rental income. By law, a REIT must distribute at least 90% of its net income as dividends to avoid taxation.

So why all the excitement over REITs these days?

The short answer is interest rates. Since the start of this year, the yield on the 10-year Treasury note has jumped more than 50%. Last week, the note was yielding more than 1.5% for the first time in over a year.

Watch This Video: Rising Rates Rattle Wall Street

That means bond prices are going down and could do so for a long time. Once the economy fully reopens later this year, inflationary pressures should push up bond yields. And in a couple of more years, all the money that was added to the federal deficit during the past year may drive them even higher.

End of an Era

For the past 35 years, bond investors have had it pretty easy. As interest rates gradually ebbed lower, bond prices soared higher. But with the money supply now expanding much faster than economic growth, we may be reaching the end of an era.

All other things being equal, higher interest rates are bad for REITs. That increases their borrowing costs which reduces profit margin. However, all other things are not equal. Demand for most forms of real estate is soaring, driving up property values. That makes it easier for REIT sponsors to borrow money at preferred rates.

In fact, some REITs actually profit from higher interest rates. That’s because they have rent escalation clauses written into their lease agreements. If rates rise, the tenant pays more rent even if the REIT’s borrowing costs are fixed.

Now might be a particularly opportune time to buy REITs. Last year, the coronavirus pandemic shut down offices, restaurants, and stores. Wall Street feared that they would not be able to pay their rent, in which case the REITs that owned those properties would lose valuable income.

That did happen to many mortgage REITs that own loans instead of property. But most equity REITs have weathered the storm quite well. And now that the economy is heating up, the worst should be behind them.

I expect REITs to perform considerably better this year than in 2020. Last year, REITs were the second-poorest performing sector of the 11 S&P 500 categories with an average return of -2.2%.

In 2010, REITs were the best performing sector category. That was the year after the stock market bottomed during the throes of the Great Recession. Could 2021 be a repeat of that year?

Ride the Tide

I last wrote about REITs in this space a year ago. At that time, I noted that the SPDR Dow Jones REIT ETF (RWR) had fallen 38% in less than a month. Since then, RWR has rallied 50% but is still below its pre-coronavirus pandemic level.

That’s because growth stocks got most of the attention last year. Who cares about a 7% dividend yield when Tesla (NSDQ: TSLA) is appreciating 700%?

Suddenly, a lot of people care about dividends. That’s because growth stocks are beginning to buckle under the inflationary implications of rising interest rates. It did not take long for the stock market to adjust.

Since peaking at $900 on January 25, TSLA closed last week near $675. And after hitting a record high on February 12, the tech-heavy NASDAQ Composite Index plunged 7% over the next two weeks.

It appears that the tide is turning in favor of dividend stocks. For income investors, that means equity REITs should be one of the best ways to obtain high yields.

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