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SRVR: Getting Exposure to Next-Gen Tech Through Real Estate
The Pacer Benchmark Data & Infrastructure Real Estate SCTR ETF ([[SRVR]]) is an ETF that concentrates on the real estate aspect of data and infrastructure, with a main mission to get exposure to the growth opportunities that lie within data centers, wireless towers, and fiber optic networks.
The index has the most exposure to Equinix Inc. (EQIX) at 16.08%, and 13.69% exposure to American Tower Corp. (AMT), which you can read my full analysis of here. The index has 12.64% exposure to Crown Castle International (CCI), 5.46% exposure to Zayo Group Holdings (ZAYO), and less than 5% exposure to groups like Digital Reality Trust (DLR) and Lamar Advertising (LAMR).
This gives SRVR 45/45 exposure to data center companies and cell tower and fiber telecom, respectively. The other 10% is devoted to outdoor tech infrastructure. This gives the ETF great exposure to the growth opportunities of 5G, the cloud, and the other evolutions in tech without getting exposure to tech companies and tech valuations.
(Source: Benchmark Presentation)
The SRVR ETF allows investors to get exposure to real estate and tech growth, which play off each other nicely. Real estate is historically more stable than equities, but because the REITs represented in this ETF are data centers and cell towers, they have more growth opportunities than the standard real estate investment.
On the flip side, a standard tech investment is growth-oriented and can be expensively valued, but because the SRVR ETF is focused more on the stable physical tech infrastructure, investors get double exposure to two great investment opportunities: real estate and tech.
(Source: Twitter)
I’ve written extensively on 5G and the cloud opportunities in the market, as well as my expected outperformance for cell tower REITs moving forward. SRVR gives investors exposure to all of those opportunities, and diversifies across all three.
Data Center Exposure: EQIX, QTS, CONE, and DLR
The strong exposure to Equinix gives investors exposure to data centers across the globe. The company has experienced stable growth in revenue over the past several quarters, and has allocated capital expansion to major metros like Frankfurt, Hong Kong, London, Paris, and Shanghai.
Equinix currently has 202 data centers within 52 metros. It owns 87 of the 202 centers, generating more than half of the company’s recurring revenue. The average remaining lease term is greater than 18 years, well into 2033, giving Equinix longevity in the space.
(Source: Equinix Company Presentation)
The data center industry is expected to grow well into the future, with an expected five-year CAGR of 13.69%. This goes hand in hand with the growth of cloud technology, through the likes of Amazon’s AWS (AMZN) and Microsoft’s Azure (MSFT). As cloud continues its adaptation process across the board, Equinix and the data centers in its portfolio should benefit.
(Source: Mordor Intelligence)
QTS: Enterprise Data Centers + Hyperscaling
QTS Realty Trust (QTS) is also a top performer in the data center space, with a strong focus on hyperscale and “enterprise hybrid IT colocation”. Hybrid colocation is basically a shared data center. It still carries all the server infrastructure, but businesses rent the space. This caters primarily to companies that have their own data centers but are looking to roll off the costs of owning that physical space and allocate more capital to their primary business.
QTS has seen 15% year-over-year growth in its user base and an overall increase in deal size through its enterprise funnel. Its enterprise focus represented the majority of the company’s net leasing volume for Q1’19.
Hyperscale computing “refers to an architecture that expands and contracts based on the current needs of the business”. It’s a more efficient way to do cloud computing, as it can meet expectations across the spectrum and fulfill a variety of different needs that customers have.
QTS built out its Fort Worth mega center, as well as centers in the Netherlands. The Netherlands is QTS’ first mega-scale expansion outside of the U.S. which the company is executing through “low basis new market entry leveraging local partnerships to de-risk execution in a new international market”, with expectations of $3 million recurring revenue from the project. Taking advantage of existing relationships, as well as purchasing existing centers, gives QTS a strong grip on the data center market.
Cyrus One: IT Cloud and Stable Growth
CyrusOne Inc. (CONE) focuses on enterprise carrier-neutral data center properties, with operations for more than 1,000 customers across 48 centers. The company has been able to expand across several key growth verticals, including the cloud and IT Enterprise.
IT cloud represents ~63% of the company’s monthly recurring revenue signed and has been stable for the past three years. CyrusOne operates in a high-margin business, and is expecting to realize $110-115 million in annual revenue once it leases out its remaining spaces.
(Source: CONE Company Presentation)
CyrusOne operates across the globe, with a strong focus on the U.S., but it plans to continue expansion into Europe. Northern Virginia is almost entirely leased out, and Phoenix is 100% occupied. The company still has room to grow in Dallas and Chicago, but overall, its properties are 85% leased domestically.
Abroad, Frankfurt and London are 99% and 100% leased, respectively, and Singapore is only 22%, giving the company plenty of room to grow as those spots get leased out. It keeps a pretty tight balance sheet. CyrusOne currently has $1.55 billion in available liquidity, and no debt matures until 2023.
AMT, CCI, and SBAC: The Cell Tower REITs
I wrote an in-depth piece on AMT in May 2019, highlighting the predictable and profitable business model that the cell tower REITs carry. There are high barriers to entry, due to the cost of leasing and constructing these towers. But there is ample room for the current three major companies to grow as 5G development moves forward. There will need to be more cell towers built and a strong focus on densification in order to allow for 5G introduction.
(Source: Seeking Alpha)
With regard to the concern of a Sprint (S) and T-Mobile (TMUS) merger, AMT is the most protected in case that does go through. It has only a 3% revenue overlap between those two companies, and the lowest revenue exposure to both as well. CCI and SBAC are more exposed, but the impact shouldn’t be overly detrimental in the short term.
(Source: Seeking Alpha)
SBAC and AMT have more international exposure, whereas CCI is a pure domestic play. CCI focuses more on fiber and small-cell networks, whereas AMT and SBAC are focused more on macro towers. AMT has the strongest profitability metrics as compared to its cell tower REIT competitors, and has been able to increase its profitability consistently since 2014.
(Source: Capital IQ)
The SRVR ETF gives investors exposure to all three of the major cell tower REITs and their individual portfolios. Investors can diversify through small-cell network exposure through CCI, which will be key in the 5G rollout, as well as benefit from the international exposure that both AMT and SBAC carry.
(Source: WTCM)
The index is heavily concentrated on cell tower REITs, at 31.29% of holdings, which is beneficial as 5G continues to its adoption process. The cell tower REITs are one of the most profitable and stable ways to get exposure to the 5G boom.
Index Outperformance
SRVR has outperformed both the SPX and FIVG, which is the Bluestar 5G Communications Index year to date. The constituents of SRVR have had stellar earnings performance for Q1’19, posting 4.1% returns, as compared to (1.97%) for the SPX and (10.32%) for FIVG.
(Source: Benchmark Presentation)
The story is similar over the past five years as well. SRVR’s Total Return was 102.26%, as compared to the SPX’s 53.1% return and the RMZ Index return of 25.44%.
When comparing SRVR to the Tech Select Index and the S&P 500, measured from April 2014 to now, SRVR generates the most alpha, delivering 5.54 points as compared to Tech Select’s alpha return of 5.20.
(Source: Benchmark Presentation)
SRVR has a lower annual return, but that’s compounded by a lower beta, a higher Sharpe Ratio, and a more balanced downside / upside capture as compared to Tech Select. SRVR should continue to be a way for investors to play the 5G / cloud growth story, especially as semiconductor and hardware manufacturers continue to come under regulation fire.
It has outperformed during times of uncertainty as well, especially during the May Crash for Tech stocks, in which tech lost half a trillion in market cap and plunged almost 9%. SRVR experienced growth, up 3%, compared to a 7.7% drop in the Nasdaq 100.
(Source: Yahoo Finance)
The 1-Year correlation between SRVR and the SPX is 0.566, and the 3-Year correlation is 0.563, so SRVR doesn’t move to closely with the S&P 500, which is beneficial from a diversification standpoint. As shown below, SRVR has outperformed both the market, as measured by the SPX, and real estate, as measured by RMZ, over the past five years.
(Source: Benchmark Presentation)
Risks Ahead: Obsolesence and Valuations
Of course, there is the risk that cell towers become replaced entirely by other means of technology moving forward. Technological innovation is always moving and growing and expanding. If that happens, many of the constituents of the ETFs will have to find other means of growth.
Also, traditional data centers are increasingly being replaced through online options, creating the “Everywhere Center”. There will be toolboxes of applications moving forward, with less focus on centers that do everything and more focus on centers that fill in the gaps. Staying on top of that knowledge evolution will be important for the data center groups in the SRVR ETF.
Also, real estate is not cheap. Data centers and cell towers are on the more expensive end as well. The average P/E ratio for cell towers is 22.7x, and AMT trades at a 55.24x, more than double the industry average.
(Source: Capital IQ)
The companies are also at risk for higher interest rates. Cuts are more likely currently, but that could change, especially considering the most recent jobs report. If rates rise, investors will pull their dollars out of REITs and stick them in bonds that carry a safer return.
There are definite risks that come from tech exposure as well, including the volatility and the uncertainty. Tech is a fast-moving world and real estate is not, which could leave the physical infrastructures useless if tech growth surpasses the need for them. However, despite the headwinds, I believe that for the next few years, data centers and cell tower REITs are in a pretty good spot.
Conclusion: Exposure To Data Real Estate through Equity
SRVR offers investors the chance to get exposure to the fast-growing industries of 5G and cloud through real estate, which is one of the most consistent and profitable ways to do so.
5G still has time before it rolls out completely, but getting on the frontline of that opportunity is a good idea. Infrastructure is the most important thing for 5G execution, and the constituents in the SRVR ETF are all key players in allowing that process to occur.
The cloud industry, which encompasses data centers, hyperscaling, and colocation, just to name a few, is a huge growth opportunity. SRVR gives investors exposure to the 17.3% growth expected in the total Public cloud market in 2019.
(Source: Gartner)
Overall, SRVR gives investors exposure to Big Tech, but through real estate. Also, it’s not just 5G exposure – as our world becomes increasingly interconnected, these companies that have physical assets, such as data centers and wireless towers, will become increasingly important in facilitating the growth of the industry. It’s a way to get exposure to huge growth opportunities through stable, consistent companies. It allows for diversification, and the constituents play well off of each other.
The fund currently has AUM of $34.83 million, trading at $30.29 with a 52-week low of $22.2. It has a 17.99x Price-to-Funds from Operations. Any asset that has popped over 25% YTD should be evaluated carefully, especially in consideration of more room to the upside. I would recommend letting the ETF stabilize at around ~$30 before purchasing.
(Source: Seeking Alpha)
The fund itself has a 3.25% dividend yield. It’s returned 26.85% this year alone, which is ~10% more than the SPX’s return of 17.35% and the Nasdaq’s 20.66%. Overall, I think the fund has room to the upside, especially as 5G continues its takeoff, the cloud becomes even more commonplace, and the fund constituents continue to build out their portfolios. As a long-term investment, SRVR is a great way to get exposure to growth, and diversification across industries, with the stability of real estate.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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