Real estate investment trust (REIT) Essex Property Trust (NYSE: ESS) has created a level of success that few competitors can match. It could easily be a key piece of a millionaire-maker portfolio. However, this apartment landlord isn't for the faint of heart because there's one big risk you just can't ignore. Here's why Essex Property Trust could help make you rich, but it isn't a name you want to load up on.
What a history!
The REIT structure is specifically created to pass income on to shareholders, with REITs required to pay out 90% of earnings as dividends. So one of the best ways to rate a REIT's success is by looking at its dividend history. Essex Property Trust has increased its dividend annually for more than 27 consecutive years, making it a Dividend Aristocrat. That's a rarefied group and an impressive achievement.
Meanwhile, average annualized dividend growth over the past decade was roughly 7%. That's more than twice the historical growth rate of inflation. This is a powerful bit of information because it means the buying power of shareholders dividends have grown materially over time.
And while the around 2.9% dividend yield isn't exactly huge, dividend growth can help to make up for the modest starting point. That said, remember that, today, the S&P 500 Index is only offering a yield of 1.4%. So while you can find higher-yielding REITs, compared to the broader market, Essex's yield is still fairly attractive.
Essex has built this incredible dividend record by investing in apartment properties located in high barrier-to-entry markets with wealthy populations and material demand. Meanwhile, its properties tend to sit at the high end of the market, so it can collect premium rents in the areas it serves. There's no question that Essex could help you build a million-dollar portfolio.
The fly in the ointment
That said, there's one very big problem and it's tied directly into Essex's long-term success. This apartment REIT only operates in two states, California and Washington. Within those two states, it's hyper-focused on just three regions (Seattle, Northern California, and Southern California) and roughly eight submarkets. To be fair, these are the biggest, most important West Coast cities, including Los Angeles, San Francisco, Seattle, Oakland, and San Diego. However, there's no way around the fact that Essex's fortunes will rise and fall along with a very small area of the United States.
However, that's not all. The reason the areas Essex operates in have done so well for so long is that technology companies have grown dramatically in recent decades. And many of the most important tech names call California home. So not only are the economic ups and downs of the West Coast important here, so too are trends in the technology sector. If technology companies should decide to move out of the region or reduce their presence by allowing more remote work, Essex could have some material headwinds.
Although the coronavirus pandemic has brought that last risk to the fore, it's probably too soon to suggest there's a long-term shift that Essex needs to worry about. In fact, the REIT believes the markets it serves are poised to recover as vaccination trends improve. However, for long-term investors looking to create wealth, the concentration risk here suggests that betting the (cow or server) farm on this one REIT could be a mistake. It would be best to view it as a key part of a more diversified REIT portfolio.
A great REIT, but no home run
Essex is a well-run apartment REIT with an incredible track record of success. That said, the pandemic has exposed the biggest risk here, and that's Essex's concentration on such a small number of markets that are all very similar. That doesn't mean it can't help turn you into a millionaire, just that you should probably view it as a piece of a bigger portfolio puzzle rather than a "one and done" type of investment.