Revealed: 2 small income shares with BIG potential

The real estate investment trust (REIT) sector has been one of the best performers over the last five years, offering good income and strong share price growth.

It’s possible to create a diverse portfolio with REITs such as farmland REIT Rural Funds Group (ASX: RFF), self-storage provider National Storage REIT (ASX: NSR) and shopping centre owner Scentre Group (ASX: SCG).

REITs generally have a reliable source of recurring income, which in turn provides a solid dividend stream. Here are two REITs that I have my eye on:

Generation Healthcare REIT (ASX: GHC)

This REIT focuses purely on owning and leasing healthcare properties. It has interests in a variety of different buildings including hospitals, clinics and aged care facilities.

A majority of its property portfolio is in the state of Victoria, though it has locations in Queensland and New South Wales too. Of course, it has the ability to expand into any state if it wishes to.

Generation Healthcare’s biggest focus currently is expanding Frankston Private Hospital which, once completed, will earn a rental income of 8.5% on the cost of the project.

In five years Generation Healthcare’s share price has risen 120%, comfortably beating most market indexes. Its dividend growth has also been pleasing, having grown by 32% since FY12. It’s trading with a trailing dividend yield of 4.87%.

During the current year the dividend is expected by management to grow by 1.5%, which suggests it’s trading on a forecast dividend yield of 4.94%. After the Frankston Private Hospital expansion is complete more income can go towards distributions to shareholders.

Of course, one of the main things to monitor with a REIT is its debt leverage, also known as gearing. Generation Healthcare’s gearing was 28.3% in its latest results to 30 June 2016.

Arena REIT No 1 (ASX: ARF)

Arena is a REIT that is mainly focused on owning and leasing 196 Childcare properties to operators such as Goodstart Early Learning and Affinity Education Group. Goodstart Early Learning centres provide 42% of Arena’s income, but the properties are geographically diverse.

However, it does also have seven healthcare properties that it leases to Primary Health Care Limited (ASX: PRY).

Arena’s share price has grown by 79% since it listed in June 2014 and it’s currently trading with a dividend yield of 6.03%.

Arena’s management has forecast an increase of 7.4% to the dividend during FY17, meaning it’s trading with a forward dividend yield of 6.48%.

At 30 June 2016 its gearing was 26.8%, a bit lower than Generation Healthcare, which I think is a reasonable level.

The current government is supportive of the childcare industry, but there’s always a chance that funding may be reduced in future years which would affect Arena indirectly.

Is it time to buy?

I think either of these REITs would be a good way to diversify investment income, which is why they are on my watchlist.

However, the reason they’re on my watchlist and not in my portfolio is because a Fed interest rate is expected in December, particularly as Donald Trump wants to raise rates.

This would affect proxy-bond shares like Sydney Airport Holdings Limited (ASX: SYD), REITs as well as fast growing businesses the most.

If the interest rate rise does happen, there’s a good chance share prices would decline and therefore increase the potential dividend yield. This would make an attractive entry point into REIT shares, so I’ll wait on the sidelines until then.

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Motley Fool contributor Tristan Harrison owns shares of RURALFUNDS STAPLED. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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