What is an REIT and is investing in one right for you?
A REIT is a Real Estate Investment Trust. These are companies that finance or own real estate that generates income such as a hotel, a hospital, shopping malls, storage centers, or apartment buildings. Similar to the structure of a mutual fund, a REIT can provide investors from all types of income diversification and long-term financial growth. REITs usually pay all of their taxable income out as dividends to their shareholders, which in turn, the shareholders pay income taxes on said dividends.
REITs provide a way for investors to earn a share of the income generated by a commercial real estate project without ever having to purchase commercial real estate themselves. In fact, many REITs are publicly registered with the SEC and traded on the stock market. These are what you would call publicly traded REITs. Some others are registered with the SEC yet not publicly traded. These are what you would call non-traded REITs. This is a very important distinction between the multitude of different kinds of REITs. Before investing, you should always know whether or not the REIT is publicly traded or not, and how this could affect your risk vs. reward.
REITs offer investors a number of rewards which include,
- Dividends: Stock exchange-listed REITs have provided a stable income stream to investors.
- Adding Diversity to your portfolio:
- Liquidity: REIT shares that are listed with the stock exchange can be easily bought and sold- the same is not true for ones that are privately listed.
- Performance: Over long term investment, the stock exchange listed REIT returns outperformed the S&P 500, Dow Jones Industrials and NASDAQ.
- Transparency: Stock exchange listed REITs operate under the same rules as other public companies for security regulations and financial reports.
So what are the risks?
- Interest Rates: The biggest is interest rates getting higher, which reduces the demand for an REIT. Arguments can be made that rising interests rates could indicate a stronger economy, which in turn means higher rent rates. Unfortunately history has proven that REITs don’t perform well when interest rates go up.
- Fixed Maturity: Unlike a mutual fund, REITs must dissolve at some point.
Overall an investment in a REIT could be a great addition to your portfolio if you’ve correctly done your research. It is better for less experienced investors to still to the publicly traded REITs if only for the peace of mind that comes with the transparency of a publicly traded company.
For more real estate advice be sure to connect with me on twitter @richard_maize