First Asset REIT Income Fund

Analysis: As an asset class, REITs were hit pretty hard during the “taper tantrum” in May of 2013, with the S&P/TSX Capped REIT Index dropping by nearly 17% between May and August. They have since fought their way back, and recouped the losses and then some. During that selloff, the First Asset REIT Income Fund was down by 9.7%, but has since rebounded by more than 23%, significantly outperforming the benchmark.

Manager Lee Goldman runs a concentrated portfolio of predominantly Canadian REITs and real estate operating companies. He can also invest up to 30% of the fund outside of Canada. While the top holdings contain some familiar names such as RioCan, Boardwalk, and H&R REIT, the bulk of the portfolio is made up of lesser known names. Unlike most of his peers, Mr. Goldman focuses on small and medium sized companies, which make up more than 90% of the fund, compared with 80% for the REIT index.

Whenever you see a fund that is heavily focused in smaller companies, one of the big concerns is liquidity and how that will affect the managers ability to continue to execute their investment process. That is not likely to be a concern for this fund in the near to medium term. At the end of October, assets were only $30 million. This should give the managers continued flexibility to invest in small cap names without running into too much trouble.

When looking at potential investment candidates, they look for a management team that can drive deliver strong same-property net operating income growth. This will help to increase cash flow for the REIT, which will help to offset the potential damage that could result from a rising interest rate scenario. As a result, the portfolio has a very decided value bent. It holds 35 names, with the top ten making up about 40% of the fund.

The manager continues to like names with geographic exposure outside of Canada that have lower payout and leverage ratios, and are less dependent on the capital markets to execute their business strategy. He is also finding that many real estate investments continue to trade at discounts to their net asset value.

While the longer term performance has been good, more recent numbers are less impressive. However, factoring in the strong downside protection and the portfolio that looks much different from the index and its peer group make this an interesting alternative for investors seeking real estate exposure in their portfolios. While I like the fund, I would still exercise some caution given its focus on smaller names, and relatively short operating history. I believe it is only suitable for those who are comfortable taking on a higher level of risk.