A Comprehensive Guide to Real Estate Investment Trusts (REITs)

Jeremy BiberdorfBy: Jeremy Biberdorf

June 27, 2023June 27, 2023

Real Estate Investment Trusts (REITs) are a popular investment vehicle providing a unique blend of passive income and capital appreciation potential. Here, we will delve into the nature of REITs, their pros and cons, how they fit into an investor’s portfolio, and how to analyze them.

What are REITs?

REITs are companies that own and operate income-producing real estate. They are designed to provide retail investors with a way to invest in real estate without the need to buy physical properties.

Just like how you can buy shares of a company, you can buy shares of a REIT and become a part owner. This structure was introduced in the United States in 1960 and has since spread to many other countries around the world, including Canada.

While you may not be familiar with the mechanics of investing in REITs, there are several financial media platforms where you can gather solid information, such as Motley Fool and Morningstar. Each of these services often provides analysis on specific REITs, which could give you a good starting point in your research.

Types of REITs

Real Estate Investment Trusts (REITs) are a unique type of investment structure that allows investors to have a stake in the real estate market. These trusts are classified into three main categories based on their operational and investment strategies, namely: equity REITs, mortgage REITs, and hybrid REITs.

  • Equity REITs: The most prevalent type of REITs in the market today are equity REITs. They typically own, operate, and manage a portfolio of income-producing properties. The types of properties they deal with can be incredibly diverse, spanning from office buildings, shopping centers, and hotels to apartment complexes and healthcare
  • Mortgage REITs: On the other hand, mortgage REITs deal not with the properties themselves but with the financing used to acquire them. These REITs lend money to real estate owners and operators, either directly through mortgages and loans or indirectly by acquiring existing mortgage-backed securities.
  • Hybrid REITs: As the name suggests, hybrid REITs combine the investment strategies of both equity and mortgage REITs. They own and manage properties, similar to equity REITs, while also lending money or buying mortgage-backed securities, akin to mortgage REITs.

These three types of REITs provide different risk and reward profiles, and investors should carefully consider which type aligns best with their investment goals, risk tolerance, and time horizon before making an investment decision.

Advantages and Disadvantages of Investing in REITs

Like any investment, REITs have their pros and cons, and discerning these can help you match your investment choices to your financial goals.

One of the significant advantages of investing in REITs is the relatively high dividend yield. REITs are required by law to distribute at least 90% of their taxable income to shareholders in the form of dividends. This often results in higher yields compared to other equity investments.

REITs also offer diversification as they typically have low correlations with other asset classes, meaning they can help stabilize a portfolio when stocks or bonds are performing poorly. Another plus is broad access to real estate investments that would otherwise be inaccessible for most individual investors.

However, just as there are advantages, there are also drawbacks. For instance, the high dividend payout reduces the capital a REIT retains for reinvestment or for buffering financial shocks. Interest rate fluctuations can also drastically impact REITs, especially for those heavily leaning on mortgage-backed securities.

Understanding How to Assess REITs

When considering an investment in REITs, there are several crucial factors to consider that can help you determine their potential for success. Each of these components will help provide a more comprehensive picture of the REIT’s potential profitability and longevity.

  1. Type of Real Estate: The first thing you’ll want to look at is the type of real estate the REIT specializes in. This could be residential properties, commercial spaces like office buildings or retail establishments, or industrial properties such as warehouses. Each category has its own market dynamics and risk profiles, so it’s essential to understand where a REIT focuses its operations.
  2. Location: The geographical location of the REIT’s holdings can significantly impact its profitability. Some locations have high property values and rental rates but may also be more susceptible to economic downturns. In contrast, others may offer steady, albeit lower, returns. Understanding the local real estate market where a REIT operates can give you insights into its potential earnings.
  3. Occupancy Rates: Occupancy rates provide information about the demand for the REIT’s properties. High occupancy rates typically indicate strong demand, leading to stable or even increasing rental income. On the other hand, low occupancy rates might suggest an oversupply of properties or reduced demand, which could affect the REIT’s
  4. Management Track Record: The expertise and performance of the REIT’s management team can also significantly influence the trust’s success. Consider looking into their past performance, including how they’ve managed downturns in the real estate market, their strategic planning for growth, and how effectively they maintain and improve
    properties to retain and attract tenants.

When it comes to finding reliable sources for analyzing REITs, a few stand out:

  • Morningstar: This is an international investment research firm that offers robust analysis on REITs. Morningstar reports often delve into a REIT’s financial health, market position, and projected performance.
  • Motley Fool: Known for their investment advice and financial market insights, Motley Fool provides useful information on REITs, including upcoming investment opportunities and detailed assessments. As with any investment advice, you should cross-verify their information with other sources to ensure its credibility before making investment decisions.

Exploring Popular REIT Investment Platforms

Beyond traditional stock market investments, there are dedicated platforms that focus solely on REITs and other real estate investments. Let’s dive into a few of them that have gained considerable attention from the investment community.

First National Realty Partners (FNRP)
  • First National Realty Partners (FNRP): First National Realty Partners is a private commercial real estate investment firm that offers opportunities to invest in REITs. They specialize in the acquisition, ownership, and management of quality commercial real estate throughout the United States. A comprehensive review of their services, performance, and investment opportunities can be found on the Modest Money website. Investors should pay close attention to details like minimum investment requirements, the transparency of the firm, and the variety of properties in their portfolio.

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  • CrowdStreet: CrowdStreet offers a platform where individual investors can directly invest in commercial real estate. They offer a variety of investment options, including individual deals, diversified funds and portfolios, and even tailored portfolios. These options provide a more granular level of control to investors who prefer hands-on portfolio management. The review on Modest Money provides a deep dive into CrowdStreet’s offerings and should be considered before taking a position.

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  • Fundrise: Fundrise offers eREITs, a variant of REITs that are only available for purchase on their platform. Their eREITs give investors access to a diversified portfolio of real estate projects that the company carefully vets and selects. By dealing with eREITs, Fundrise can bypass brokers and pass the savings on to investors in the form of potentially higher returns. A detailed review of Fundrise’s offerings is available on Modest Money. Key things to evaluate are the platform’s usability, investment options, and fee structure.

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While these platforms provide exciting opportunities, it’s essential to consider your financial goals, risk tolerance, and investment horizon before investing. Click here to check out the best real estate investing platforms.

Where Does REITs Fit in Your Portfolio?

REITs can be an excellent addition to your portfolio if you are looking for a steady income-generating asset. These are suitable for investors in need of regular income or those seeking to diversify their portfolio.

However, like any investment, don’t put all your eggs in one basket. It would be wise to spread your investments across a diverse range of sectors and asset classes for broader diversification.

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Jeremy Biberdorf
Jeremy Biberdorf

About the Author:

Jeremy Biberdorf is the founder of Modest Money. He's a father of 2 beautiful girls, a dog owner, a long-time online entrepreneur and an investing enthusiast.

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