Buy-to-let has become increasingly problematic for smaller ‘hobby’ landlords. Voids and unexpected costs have always been a drag on rental income and can have a disproportionate impact on those with only one or two properties — as this horror story from my Foolish colleague Alan Oscroft demonstrates.
However, more recently, tax changes and the introduction of stricter lending criteria have provided further reasons for many buy-to-let landlords and aspiring landlords to wring their hands in frustration. The result? Figures from Shawbrook Bank show the proportion of buy-to-let mortgages completed by individual landlords has fallen from 68% in the first half of 2015 to 34% in the first half of 2018. Meanwhile, over the same period, the proportion completed by limited companies has doubled from 32% to 64%.
The sector remains attractive for those operators with scale and professionalism, but how can the rest of us profit? Well, there’s a dead easy way. We can buy shares in two real estate investment trusts that listed on the stock market last year: Residential Secure Income (LSE: RESI) and PRS REIT (LSE: PRSR). Once fully invested, the former is targeting a dividend yield of 5% a year and the latter a yield of at least 6%. Thereafter, both companies expect to increase their annual dividends broadly in line with inflation.
On offer right now
Residential Secure Income raised £300m in its initial public offering (IPO) and a further £250m early this year. It focuses mainly on retirement housing, and shared ownership housing, as well as leasing housing to local authorities for the vulnerable.
PRS REIT raised £250m in its IPO. Its focus is on newly-built rental homes, mainly for families, in areas near key centres of employment, with convenient access to transport infrastructure, and close to good primary schools.
I believe it’s worth buying both stocks, because together they provide good diversification across various residential housing sub-sectors. Furthermore, I believe they’re worth buying right now. This is because those target yields I mentioned earlier are based on their IPO share prices of 100p. Both stocks are currently below that level, meaning investors today are locking in higher initial yields than the targeted 5% and 6%.
Diversification
The beauty of the stock market is that you can diversify the sources of your income beyond residential housing. You could invest in a big, commercial property player like British Land, giving you exposure to offices and shops. This stock currently offers a prospective dividend yield of 5.6%. In addition, there are numerous companies specialising in niche sub-sectors of the property rental market. For example, Primary Health Properties concentrates exclusively on modern primary health facilities in the UK and Ireland. This stock currently offers a prospective dividend yield of 5%.
Furthermore, there’s no need to stick to property companies. Indeed, I would highly recommend diversifying across a range of industries and sectors. Right now, there are plenty of yields in excess of 5% available. Vodafone, Shell, HSBC, GlaxosmithKline, British American Tobacco, and United Utilities to name but a few.
Of course, dividends are not guaranteed. Sometimes a company may suspend or reduce its dividend for one reason or another. However, holding a diversified portfolio of stocks reduces the impact of any individual company cutting its payout. As such, diversification is the way I’d go.
