The 3 Best Stocks to Invest in Lumber

We've all heard it said that money doesn't grow on trees. That might be the case, but trees themselves are actually really good long-term money makers. The unique properties of timber as an investment offer investorsreal organic growth, current income, and an inflation hedge. It's why investing in the lumber industry can make a lot of sense (and cents) for investors.

Making a case for treesLumber has a variety of uses throughout the world, which makes it a valuable commodity. It's a key building product for the housing industry, it's used to make paper products, and forest biomass provides 8% of America's renewable energy production each year. Moreover, forests store carbon, which helps to offset carbon emissions from fossil fuels.

Because of its versatility, lumber demand tends to be fairly consistent and continues to grow. Furthermore, trees themselves also continue to grow, which provides a very strong organic growth rate for investors. In fact, thanks to its sustainable forest management practices, a timber company like Plum Creek sees its forests grow organically by about 8% per year while the company never harvests more than 7% of its forests, leading to tangible growth and lots of cash flow.

This biologic growth, when combined with inflation and changes in the market, is expected to lead to steady earnings growth for the company's investors for years to come, as we see on the following slide, which shows the benefits of an investment in trees.

Source: Plum Creek Timber Investor Presentation.

The ultimate buy-to-holdBecause of the unique properties of timber, the best way to invest in the industry is to buy one of the major timber REITs, or Real Estate Investment Trusts. The three top are Weyerhaeuser , Plum Creek, and Rayonier . These companies own and manage timberlands as well as related lumber assets, and because of their REIT structure, they offer investors a compelling current dividend yield.

Weyerhaeuser is the largest of the trio; it controls nearly 7 million acres of timberland primarily in the U.S. and manages additional timberlands under long-term licenses in Canada. It's also one of the largest manufacturers of wood and cellulose fiber products. In fact, its earnings are pretty balanced between the three segments, as we see in the following slide.

Source: Weyerhaeuser.

The combination of strong earnings from harvesting its timberlands and its ability to turn that timber into valuable lumber-based products makes Weyerhaeuser a very solid choice for investors looking to profit from the lumber industry. Investors can also pocket the company's generous dividend, which is currently yielding 3.6%.

Plum Creek is also a very large timber REIT; it manages 6.6 million acres of land. Its focus is slightly different as it puts more emphasis on managing its land than just managing timberlands. Because of this, the company will often sell its land for higher and better uses such as for a housing development or for conservation.

Plum Creek also works to maximize the value of the land it holds by securing non-timber revenue streams such as leasing land for wind farms and for oil and gas development. In fact, more than half of its earnings come from managing its land as opposed to timber revenue. That said, this revenue adds up, enabling Plum Creek to offer investors a pretty compelling dividend yield that's currently just over 4%.

Rayonier is the smallest of the three; it manages just 2.7 million acres. It's more of a pure play on timberlands than the other two, as it recently spun out its own cellulose fibers business into Rayonier Advanced Materials . Post-spin, all but 38% of Rayonier's income in 2015 is expected to come from managing its timberlands for lumber, but that still adds up to a lot of cash that the company returns to investors via a robust 3.75% dividend.

Investor takeawayThe best way to invest in lumber is via timber REITs. These companies directly own millions of acres of timberland, giving investors a pure play on lumber. Not only that, but timber REITs offer real organic growth, solid fundamentals, an inflation hedge, and a compelling dividend yield.

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Matt DiLallo has the following options: short August 2015 $40 puts on Plum Creek Timber. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. 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.

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