Technology

3 Stocks to Buy From a Red-Hot Sector That Has Lagged Recently

Lee Jackson

Published: June 4, 2018 10:35 am

Last Updated: January 11, 2020 10:49 pm

It usually is the biggest gift investors can possibly ask for when a sector that has been hot due to huge demand cools off after a quarter of slowing orders or other metrics that take a break. Toss in interest rates rising in a sector that eyes them, but certainly isn’t structurally hurt by increases, and you may have the absolute perfect storm to make some money.

For years the data center stocks have been awesome investments as cloud growth and computing has continued practically unabated. In addition, since most are structured as real estate investment trust, they have also paid out significant distributions.

A recent Deutsche Bank research report notes that the stocks in this group are down 11% this year and valuations of the top companies are now back just about to the five-year averages, which bodes well for investors looking to buy shares. The report noted this:

While volume concerns should have been assuaged, pricing and yield concerns have been rising given the growing impact of hyperscale demand, which almost by definition have lower-than-average yields. What we think is being overlooked in all of this is that volume growth continues to drive strong top and bottomline growth and that lower yields on hyperscale deals also come with commensurately lower risk in terms of longer lease durations and higher tenant credit.

Three companies are rated Buy and their shares make sense for growth investors looking for the additional kicker of solid distributions.

CyrusOne

Across Wall Street, this is a top pick among the data center stocks. CyrusOne Inc. (NASDAQ: CONE) designs, builds and operates facilities across the United States, Europe and Asia that give its customers the flexibility and scale to match their specific growth needs. Specializing in highly reliable enterprise-class, carrier-neutral data center properties, the company provides robust data center infrastructure to ensure the continued operation of IT equipment for a rapidly growing list of organizations that now nears 900, including nine of the Fortune 20 and more than 160 of the Fortune 1,000 or equivalent-sized companies.

Many analysts feel that some of the best returns in the data center sector may be found in the smaller players in the space like CyrusOne. The stock trades at numerous lower multiples than their bigger competition and top analysts feel that the discount valuation is not warranted given the recent surge in leasing and above-average growth. The company has also exhibited faster deployment times, rapid new market expansion and low churn among customers, all bullish reasons for buying the stock.

CyrusOne unitholders receive a 3.27% distribution. The Deutsche Bank price objective for the stock is $70, while the Wall Street consensus target is $63.71. The shares traded Monday morning at $56.45.

Digital Realty Trust

This top data center company also is a solid play on the huge cloud and streaming content revolution. Digital Realty Trust Inc. (NYSE: DLR) supports the data center and colocation strategies of more than 600 firms across its secure, network-rich portfolio of data centers located throughout North America, Europe, Asia and Australia.

Digital Realty’s clients include domestic and international companies of all sizes, ranging from financial services, cloud and information technology services, to manufacturing, energy, gaming, life sciences and consumer products. The company rates highest with portfolio managers as 8.39% of the market cap of the company is in institutional hands.

The analysts cite the solid dividend, and the potential for dividend growth. They also feel that data center pricing is still favorable, and the growth in adoption of the cloud is a positive going forward. Lastly, they feel the stock is underweighted by active managers, and could see an uptick if they started adding shares.

Investors receive a 3.72% distribution. Deutsche Bank has a $125 price target, while the consensus target is $121.78. The shares were trading at $108.60.

Equinix

This is one of the larger cap companies in the data center arena and a top play for more conservative accounts. Equinix Inc. (NASDAQ: EQIX) provides data center services to protect and connect the information assets for the enterprises, financial services companies, and content and network providers primarily in the Americas, Europe, the Middle East, Africa and the Asia-Pacific.

The company provides colocation services and related offerings, including operations space, storage space, cabinets and power for customers colocation needs; interconnection services, comprising physical cross connect/direct interconnections, Equinix Internet Exchange, Equinix Cloud Exchange, Equinix Metro Connect and Internet connectivity services; and managed IT infrastructure services, including installation of customer equipment and cabling, as well as equipment rebooting and power cycling, card swapping and emergency equipment replacement services.

Investors receive a 2.28% distribution. The $540 Deutsche Bank target price is well above the consensus price objective of $504.74. The shares were trading at $399.30.

While all three have bounced back from lower levels printed in the spring, they still have solid upside to the Deutsche Bank price targets, and demand in the data center world continues to grow. Most importantly for investors, these are all established players in a world where entry is difficult due to the huge capital outlays required.