What is a real estate investment trust (REIT)? Everything you need to know

There are two major issues with investing in real estate: money and time. The financial barriers can be steep and managing the properties requires a lot of effort and expertise. It’s not always easy to get started or keep up with the demands.

Real estate investment trusts (REITs) offer a solution. These open investment opportunities without the typical hassles. But what is a real estate REIT?

In this guide, we explain what are REITs and how do they work. Discover how to add this alternative investment strategy to your portfolio seamlessly.

What is a real investment trust (REIT)?

A real estate investment trust (REIT) is a company that owns, operates, or finances income-producing real estate. These properties can range from office buildings and shopping malls to apartments and hotels. REITs allow you to earn regular income from dividends without the need to buy, manage, or finance the properties directly.

Types of REITs

You can choose from different types of REITs, each with its unique characteristics and investment opportunities. The main categories include equity REITs, mortgage REITs, and hybrid REITs.

Equity REITs

Equity REITs invest in and own income-generating real estate properties. They make money through leasing the properties they own and collecting rent. This is the most common type of REIT, making up 96% of the market share in 2023.

Mortgage REITs

Mortgage REITs (mREITs) provide financing for income-producing real estate by purchasing or originating mortgages and mortgage-backed securities. These properties can be either commercial or residential. Their income comes from the interest earned on these financial assets.

Hybrid REITs

Hybrid REITs combine the investment strategies of both equity REITs and mortgage REITs. This dual approach provides a balanced return from both rental income and interest payments. Due to changes in regulations and the specialization of REITs, hybrid REITs are not common.

How do REITs work?

REITs work in a similar way to mutual funds, but instead of stocks, they invest in real estate. Firms pool money from many investors to buy, manage, and develop income-producing properties.

Investors purchase shares of a REIT, like buying stock in a company. These shares can be bought and sold on major stock exchanges, providing liquidity and ease of access.

The income generated from these properties, whether through rents or mortgage interest, is collected by the REIT. To comply with regulations, REITs must distribute at least 90% of their taxable income to shareholders in the form of dividends. This ensures that investors receive a steady income stream, much like the dividends paid by mutual funds.

REITs also have the potential for capital appreciation. As the value of the properties within the REIT’s portfolio increases, so does the value of the REIT itself. This means that in addition to receiving regular dividend income, investors can also benefit from the increasing value of their REIT shares over time.

Benefits of investing in REITs

Investing in REITs offers numerous benefits, including

Steady income

Investing in REITs provides you with a steady income stream through dividends. By law, REITs must distribute at least 90% of their taxable income to shareholders. This makes REITs an attractive option for those seeking regular income from their investments.

Diversification

REITs offer an easy way to diversify your investment portfolio. They allow you to invest in real estate without directly owning properties. This helps spread your risk across different types of assets and markets.

Liquidity

Unlike direct real estate investments, REIT shares can be easily bought and sold on major stock exchanges. This provides you with flexibility and quick access to your invested capital.

Professional management

REITs are managed by experienced professionals who handle property acquisition, management, and development. This removes the burden of day-to-day property management from you.

Accessibility

REITs provide access to large-scale real estate investments that would otherwise be out of reach for individual investors. You can invest in high-quality, income-producing properties with relatively small amounts of capital, depending on the type of REIT you invest in. This makes real estate investing more accessible to a broader range of investors.

Risks of investing in REITs

REITs also come with risks. The value of REIT shares can be influenced by factors such as interest rates, economic conditions, and property market trends. These external factors can cause fluctuations in the value of your investment.

The performance of REITs can be affected by changes in occupancy rates, property values, and lease terms. Lower occupancy rates or declining property values can reduce the income generated by the REIT. This can impact the dividends you receive.

You are also dependent on the administration for selling, buying, and management decisions. Poor management choices can negatively impact the performance of the REIT and your returns.

How to invest in real estate investment trusts

Investing in REITs can be done through various channels, each offering different levels of liquidity, management, and investment opportunities. Understanding the different types of REITs available for investment is crucial for making informed decisions.

Publicly Traded REITs

Publicly traded REITs are listed on major stock exchanges and can be bought and sold like any other publicly traded stock. These REITs offer high liquidity, allowing you to easily buy and sell shares. This is the most accessible option for investors.

Investing in publicly traded REITs provides transparency, as they are subject to the reporting requirements of the Securities and Exchange Commission (SEC). This allows you to access detailed financial information and performance metrics.

Publicly traded REITs are subject to market volatility. Their share prices can fluctuate based on broader market trends, economic conditions, and interest rate changes.

Public Non-Traded REITs

Public non-traded REITs (PNLRs) are registered with the SEC but are not listed on major stock exchanges. These REITs are less liquid than publicly traded REITs, as shares cannot be easily bought or sold on the open market.

Non-traded REITs often have lower volatility than publicly traded REITs, as their share prices are not subject to daily market fluctuations. They tend to have higher investment minimums and can be more difficult to sell, especially during economic recessions.

Private REITs

Private REITs are not registered with the SEC and are not publicly traded. They are typically offered to accredited and institutional investors.

Private REITs offer unique investment opportunities and potentially higher returns but have high minimum investment requirements and lower liquidity. These REITs are not subject to the same regulatory requirements as public REITs, which can make them less transparent.

The future of REITs

REITs stand to remain an attractive option for investors in 2024 and beyond. One major influence on REITs is the rise of eCommerce, which has driven up demand for industrial and logistics properties. This continues to benefit industrial REITs.

The growing consciousness around sustainability will also continue to impact REITs. Investors are increasingly looking for sustainable investment options. REITs that can offer eco-friendly properties are positioned to attract more capital.

Technological advancements are also likely to shape the future of REITs. The use of investment management solutions is enabling more efficient and effective property management, helping to boost tenant satisfaction and cut operating expenses. This can make REITs more profitable for all investors. Contact us today to see how an investment management solution can help maximize your profitability.