LondonMetric Property‘s (LSE: LMP) been appearing high on AJ Bell’s most-bought lists, making it one of the more popular shares among retail investors. Its 7%-plus dividend yield’s clearly part of the appeal, especially because dividends received inside a Stocks and Shares ISA are free from UK tax.
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Naturally, this caught my attention. But is a high-yield property stock the right choice for an ISA right now? I’d avoid diving into any stock simply because other investors are.
Popularity can be useful, but it’s hardly a substitute for fully assessing the business, the balance sheet and the dividend.
Why investors like it
LondonMetric’s a FTSE 100 real estate investment trust (REIT) that earns rental income from logistics and retail property. That’s appealing to income investors because rent is a tangible source of cash.
Unlike a fast-growing technology company, a landlord knows who owes it money, when payment’s due and, in many cases, how long the lease lasts.
For income investors, that matters as long leases provide earnings visibility. A warehouse let out on a lengthy contract provides a reasonable idea of the income it should receive. Add in the growing demand for warehouses from online retail, and there’s a clear case for long-term, reliable revenue.
The latest full-year results reflect this. For the year to 31 March, net rental income rose 16.6% to £455.3m, helped by nine months of contribution from the Urban Logistics REIT acquisition. EPRA earnings rose 13.9% to £305.3m and the dividend increased 3.8% to 12.45p. That’s its 11th consecutive year of growth!
Those are encouraging numbers. Still, strong results alone don’t remove every risk.
What could go wrong
Retail buying can show sentiment, but it isn’t proof of value. Investors often chase yield after a share price falls, which can create a ‘value trap’. Basically, the yield initially looks generous but, ultimately, the dividend is cut or the share price keeps falling.
Typically, this can occur because the market expects weaker property values or higher costs. So before buying, an investor should ask a few simple questions:
- Are rental earnings comfortably covering the dividend?
- How much debt does the company have relative to the value of its properties?
- Does it face near-term refinancing at higher interest rates?
- How strong are its tenants, how long are the leases, and do rents rise over time?
- Is the share trading at a meaningful discount to net asset value, and is that discount justified?
LondonMetric’s 108% dividend cover is a positive sign. It means earnings exceeded the dividend in the latest year. Still, property companies carry substantial debt, and interest costs can rise when loans are refinanced.
A fall in property values can also increase loan-to-value ratios and reduce financial flexibility.
Is it right for an ISA?
LondonMetric’s popularity isn’t surprising and I think it’s worth considering for an income-focused ISA. Its recent results, dividend record and high yield make a reasonable case.
But potential investors should understand property risk and how it could impact rental income. In other words, don’t just buy it because it’s popular.
When weighing up income shares, always assess dividend cover and balance sheet strength first. A high-yield is attractive only if it’s sustainable.
Should you invest £5,000 in LondonMetric Property Plc right now?
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Mark Hartley does not hold any positions in the companies mentioned.
This story originally appeared on Motley Fool
