Real estate investment trusts (REITs) own a basket of properties, ranging from malls to movie theaters, apartment buildings to office parks, hotels to hospitals. A REIT may specialize in a certain real estate sector, or it may diversify into a variety of property types. Investing in REITs is appealing for several reasons, especially for income-oriented investors. And while there are current risks for the REIT market as a whole, over the long term, REITs have proven to be winners.
What to Look for in a REIT
For retail investors, REITs hold several advantages over investing in real estate itself. First of all,your investment is liquid. You can buy and sell shares of REITs, which trade like stocks on an exchange. Shares of REITs have low investment minimums, as well; investing directly in an actual property often requires a much more sizable commitment.
REITs generate income from the rents and leases of the properties they own. The majority (90%) of a REIT’s taxable income must be returned to shareholders in the form of dividends. As a result, investors often rely on REITs as providers of a steady cash flow, though the shares can also appreciate in value if the real estate holdings do.
When you’re ready to invest in a REIT, look for growth in earnings, which stems from higher revenues (higher occupancy rates and increasing rents), lower costs, and new business opportunities. It’s also imperative that you research the management team that oversees the REIT's properties. A good management team will have the ability to upgrade the facilities and enhancethe services of an underutilized building, increasing demand.
REIT Caveats
It’s important that you don’t think of REITs as an investment asset in themselves. You need to look at industry trends prior to determining what type of REIT is best for your portfolio.
For instance, mall traffic has been declining due to the increased popularity of online shopping and the decline of suburban neighborhoods (this is the first time since the 1920s that urban growth has outpaced suburban growth). So, REITs that are exposed strictly or heavily to malls will present more risk than those investing in other sorts of real estate.
Or take hotels. To invest in a REIT that focuses on them is to invest in the travel industry. While the industry may be doing well at a given moment, hotels have the potential to be hit by reduced business travel as companies look for ways to cut costs, and web conferencing becomes more common.
In terms of general economic trends, low inflation and lack of wage growth – such as the U.S. has experienced in the 2000s – often limits growth potential for REITs, since they put a damper on rent increases. Even so, REITs have been performing well in the face of these headwinds.
A Far-Thinking REIT
The key is to be forward-looking. For example, millennialsfavor urban living to suburban living, a trend that has led to the aforementioned decline in suburban mall traffic and an increase in street retail (urban shopping strips anchored by a grocery or other major retailer). One REIT spotted the trend early and has set itself up accordingly.
Acadia Realty Trust (AKR) focuses on urban areas with high barriers to entry that aresupply-constrained and highly populated. It also takes the approach of not falling in love with one particular retailer, because a popular retailer today might not be a popular retailer tomorrow. Instead, it invests in a street, block, or building, allowing it always to make adjustments so hot retailers are in place. But what’s most important here is that by investing heavily in street retail, Acadia Realty Trust has looked down the road, literally, more than its peers. With a market cap of $1.37 billion, the REIT has 84 properties in its core portfolio, totaling 4.2 million square feet; as of October 2018, it had a dividend yield of 3.6%.
The Bottom Line
Despite the advantages, nobody should invest solely in REITs. As with any asset class, these should always be a portion of a diversified portfolio.
Dan Moskowitz does not have any positions in AKR.
FAQs
REITs generate a steady income stream for investors but offer little capital appreciation. Most REITs are publicly traded like stocks, which makes them highly liquid, unlike traditional real estate investments. A sizeable minority of REITs are private funds whose shares are only eligible to accredited investors.
Are REITs a good investment for beginners? ›
Are REITs Good Investments? Investing in REITs is a great way to diversify your portfolio outside of traditional stocks and bonds and can be attractive for their strong dividends and long-term capital appreciation.
What is the 90% rule for REITs? ›
By law, REITs must distribute at least 90% of their taxable income to shareholders. This means most dividends investors receive are taxed as ordinary income at their marginal tax rates rather than lower qualified dividend rates. Any profit is subject to capital gains tax when investors sell REIT shares.
Is there a downside to investing in REITs? ›
When investing only in REITs, individuals incur more risk than when they are part of a diversified portfolio. REITs can be sensitive to interest rates and may not be as tax-friendly as other investments.
What is the 5 50 rule for REITs? ›
General requirements
A REIT cannot be closely held. A REIT will be closely held if more than 50 percent of the value of its outstanding stock is owned directly or indirectly by or for five or fewer individuals at any point during the last half of the taxable year, (this is commonly referred to as the 5/50 test).
Do REITs pay monthly? ›
Like stocks, REITs often distribute dividends quarterly, though you can find some that pay out monthly. Cashflow, financial performance and agreements with shareholders are all factors that determine how and when the REIT will pay dividends.
How much money do I need to invest in REIT? ›
The Cheapest Option: REITs—$1,000 to $25,000 or more
These are securities and are traded on major exchanges like stocks. They invest in real estate directly, either through property purchases or through mortgage investments.
What is the REIT 10 year rule? ›
For Group REITs, the consequences of leaving early apply when the principal company of the group gives notice for the group as a whole to leave the regime within ten years of joining or where an exiting company has been a member of the Group REIT for less than ten years.
How long should I hold a REIT? ›
Is Five Years the Standard "Hold" Time for a Real Estate Investment? Real estate investment trusts (REITS) and other commercial property investment companies frequently target properties with a five-year outlook potential.
What are the 3 conditions to qualify as a REIT? ›
Derive at least 75% of gross income from rent, interest on mortgages that finance real estate, or real estate sales. Pay a minimum of 90% of their taxable income to their shareholders through dividends. Be a taxable corporation.
In most cases, REITs utilize a combination of debt and equity to purchase a property. As such, they are more sensitive than other asset classes to changes in interest rates., particularly those that use variable rate debt. When interest rates rise, REITs share prices can be prone to volatility.
Can a REIT lose money? ›
But they are not guaranteed investments, and it is possible to lose money with REITs. Publicly traded REITs are generally liquid—meaning you can quickly sell your investment and convert its value into cash if you need to—but the price at which you can sell is subject to market fluctuations and is never guaranteed.
Are REITs good for passive income? ›
Real estate investment trusts (REITs) are attractive because they pay investors passive income in the form of dividends while giving them the advantage of a highly diversified portfolio. However, many REITs concentrate on a single real estate sector, meaning a sector-wide downturn could slash your dividends.
How do I make money from REITs? ›
Properties can generate rental income, which, after collecting fees for property management, provides income to its investors. These REITs generate income from renting real estate to tenants. After paying expenses for operation, equity REITs pay out dividends to their shareholders on a yearly basis.
How much of my portfolio should be in REITs? ›
“I recommend REITs within a managed portfolio,” Devine said, noting that most investors should limit their REIT exposure to between 2 percent and 5 percent of their overall portfolio. Here again, a financial professional can help you determine what percentage of your portfolio you should allocate toward REITs, if any.
What is the 80 20 rule for REITs? ›
80-20 Rule: At least 80% of a REIT's asset value must be in completed and income-generating real estate, with the remaining 20% able to be invested in riskier assets such as under construction buildings, equity shares, bonds, cash, or under-construction commercial property.
Can you really make money from REITs? ›
Key Takeaways. REITs own, run, use, work, or finance income-producing properties. REITs generate a steady income stream for investors but offer little capital appreciation. Most REITs are publicly traded like stocks, which makes them highly liquid, unlike traditional real estate investments.
What is the average return on a REIT? ›
Due in part to their attractive current yields, REITs have tended to deliver annualized total returns to investors of 10 to 12 percent over time.
What is the minimum investment for REITs? ›
Also, an investor can apply to the Initial Public Offering (IPO) of the REIT. The minimum application value will range between Rs. 10,000 – Rs. 15,000.
Is it hard to sell a REIT? ›
Getting out of a non-traded real estate investment trust, or REIT, can often be rather difficult and expensive. Once a REIT is closed to new investors, the board of directors of the REIT can suspend the redemption policy.
