My Favorite Passive Income Investment for Long-Term Wealth Building

Investing in assets that generate passive income is the foundation of my investment strategy. I currently reinvest this income to build my wealth. This strategy should ultimately enable me to achieve financial independence.

I have a lot of passive income investments. However, my favorite is Realty Income (NYSE: O). I think that the real estate investment trust (REIT) is the quintessential passive income investment for building long-term wealth.

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Built to pay a very reliable dividend

Realty Income is building the company to deliver on a simple mission. The REIT invests in properties that enable it to deliver dependable monthly dividends to its investors that grow over time. The foundation of its strategy is investing in high-quality commercial properties secured by long-term net leases with the world's leading companies. Net leases require that tenants cover all property operating costs, including routine maintenance, real estate taxes, and building insurance. As a result, they produce very stable rental income.

The REIT currently owns over 15,500 retail, industrial, gaming, and other properties, such as data centers, net leased to over 1,600 clients in 92 industries. Over 90% of its rent comes from tenants in industries resilient to economic downturns or isolated from the pressure of e-commerce, such as grocery stores, home improvement centers, and automotive service locations. This well-diversified portfolio of resilient properties enhances its ability to produce durable cash flow.

Realty Income pays out a conservative percentage of its stable cash flow in dividends at around 75% of its adjusted funds from operations (FFO). That gives it a very comfortable cushion to weather any rough patches, while allowing it to retain a significant amount of free cash flow to reinvest in new income-generating properties. Realty Income also has one of the 10 best balance sheets in the REIT sector.

This combination of durable income and a conservative financial profile puts the REIT's high-yielding monthly dividend (5.7% current yield) on an extremely sustainable foundation. Since its public market listing in 1994, Realty Income has increased its dividend payment 132 times, including for the last 112 quarters in a row.

A powerful wealth-building machine

Realty Income's real estate portfolio produces very durable income that steadily rises (its net leases escalate rents at a low single-digit annual rate). The REIT supplements organic growth by expanding its real estate portfolio through new investments. It will acquire other REITs, make sale-leaseback transactions, and invest in build-to-suit development projects.

Since 1996, the REIT has grown its adjusted FFO per share by more than 5% annually. It has only had one down year (2009) when it didn't grow its earnings compared to the prior year. This consistent earnings growth has enabled the REIT to regularly increase its high yield dividend, which it has grown at a more than 4% compound annual rate since going public in 1994.

Realty Income's combination of a high-yielding monthly dividend and steadily growing earnings has added up over the years. The REIT has produced a robust 13.7% annual total return since going public.

The company has a remarkable ability to produce passive income while also growing shareholder value. For example, an investor who bought 1,000 shares at the end of 2014 would have paid $47,710 for that investment. Those shares would have generated $2,201 of annual dividend income that first year based on the REIT's dividend payment and yield at the time (4.6%). Fast forward more than 10 years, and this investment would have been worth $60,790 at the end of September. This investor would have collected a cumulative $31,772 in dividend income during this period, which they could have spent or reinvested. Talk about long-term wealth building. This investor would have enjoyed a 27% increase in the value of their original investment, while receiving 67% of the original investment paid back as dividend income. Meanwhile, they'd now be collecting $3,234 of dividend income each year, 47% more than their first year, increasing the yield on their cost basis to 6.8%.

Building wealth one dividend payment at a time

Realty Income is a passive income and wealth-building machine. The REIT pays a high-yielding and very durable monthly dividend, making it ideal for those seeking to generate passive income. On top of that, it has an excellent history of growing shareholder value. These features are why it's my favorite passive income investment for increasing my wealth.

Matt DiLallo has positions in Realty Income. The Motley Fool has positions in and recommends Realty Income. The Motley Fool has a disclosure policy.