The Federal Reserve began the process of cutting benchmark interest rates in September 2024, as expected. This comes after a long series of rate hikes it launched in early 2022 to help calm rising US inflation. He has cut the federal funds rate at three consecutive Fed meetings so far. The pace of cuts is expected to slow in 2025, but the downward trend should continue.
Here are two stocks that should benefit from falling interest rates this year — but rates aren’t the only catalyst that could push them higher.
When interest rates fall, there is usually more demand for real estate stocks because lower short-term interest rates are often associated with lower mortgage rates. That helps explain why Income from real estate(NYSE: O) the stock rose from a low of around $50 a share in early 2024 to nearly $65 in October. But stocks real estate investment trust (REIT) fell from there as 10-year Treasury yields jumped from below 4% to around 4.8%.
Even after a total of three rate cuts 100 basis points of the Federal Open Market Committee (FOMC) in 2024, the long end of the yield curve has not followed, and long-term interest rates have risen. That has made dividend-paying stocks like Realty Income less attractive compared to bonds.
But Realty Income has a lot to offer, and the stock’s decline has created an opportunity for investors. Its dividend — which it distributes monthly rather than quarterly — offers investors an income stream with a better yield than long-term Treasuries, even after Treasury yields rise. With shares recently hovering near $53, the annualized yield is currently around 6%. Also, management has increased the dividend for 30 consecutive years at a compound annual rate of 4.3%, so investors will likely see another boost in 2025.
Realty Income has also proven that it can grow its business in different economic environments. Since 1996, it has averaged about 5% annual growth in adjusted funds from operations. Combined with a dividend yield of 6% on average, this gave shareholders a total operating average return of 11%.
It is also diversifying its asset base as it continues to pursue growth. He closed the acquisition of another REIT Spirit Realty Capital in an all-stock transaction valued at about $9.3 billion in early 2024. That helped diversify and expand its U.S. assets.
He also started a joint venture with Digital Realty Trust to invest in the development of a data center in Northern Virginia.
The company has also been expanding its European real estate platform since 2023, when it acquired 82 different properties in five countries. It has a strong balance sheet with some of the highest debt ratings among S&P 500 REITs. Its liquidity and low borrowing costs will make it easy for it to continue growing, and the stock is well positioned to recover in 2025.
Another dividend payer with strong fundamental business prospects is the energy pipeline operator Kinder Morgan(NYSE: KMI). Investors have already recognized that it is well positioned in the current environment, sending shares up more than 55% in the past year. But natural gas use is likely to rise, and the falling interest rate environment should favor Kinder Morgan.
The midwater giant either operates or has ownership interests in a total of 67,000 miles of natural gas pipelines, giving it the largest natural gas network in North America. About 40% of the natural gas consumed in the US is transported through Kinder Morgan’s pipelines. Natural gas prices rose as it became apparent that the country would need to generate ever-increasing amounts of energy to power data centers.
Data center construction has exploded to support the growing computing needs of artificial intelligence (AI) software. Last year, Kinder Morgan also completed a nearly $500 million investment to expand its Gulf Coast Express pipeline, which will increase shipments of natural gas from the Permian Basin to South Texas.
Kinder Morgan’s management is not the only one who sees a long-term trend of increasing natural gas use. Constellation energy recently announced plans to acquire privately held Calpine, in part for its low-carbon natural gas production capacity. Constellation CEO Joe Dominguez acknowledged that renewables alone will not be enough to meet the country’s growing energy needs.
Explaining why his company paid more than $16 billion for Calpine and its natural gas capacity, he said: “We cannot develop zero-emission megawatts so quickly to meet this growing [data center] demand.” Data centers also require a 24-hour power supply, which renewable sources cannot always provide.
Speaking about his long-term vision for the acquisition, Dominquez added: “The grid operators say they will need natural gas in these volumes for decades to come. That was before we saw these load forecast revisions.”
Kinder Morgan Chairman Richard Kinder agrees. In his company’s third-quarter report, he said, “With significant projected increases in demand for natural gas both domestically and globally in the coming decades, we have many opportunities on the horizon.”
Investors began to recognize this last year, but Kinder Morgan is well positioned to continue rewarding shareholders for years to come.
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Howard Smith has positions in Kinder Morgan and Realty Income. The Motley Fool has positions in and recommends Digital Realty Trust, Kinder Morgan and Realty Income. The Motley Fool recommends Constellation Energy. The Motley Fool has a disclosure policy.
