Real Estate Investment Trusts (REITs) own, operate, or finance income-producing real estate across various property sectors. It allow investors to invest in large-scale, diversified portfolios of real estate assets, similar to investing in stocks. This SIE study guide covers various types of REITs and their advantages and disadvantages.
Overview of REITs
Real Estate Investment Trusts (REITs) pools capital from investors and invests in income producing real estate assets such as apartment buildings, resorts, hotels, offices, healthcare facilities, warehouses, data centers, cell towers, fiber cables, mortgages, etc.
If you buy REITs, means you’re indirectly investing in real estate business without actually owning them physically. Investors makes money if the real estate business makes profit.
Structure and Operation
REITs are typically structured as publicly traded corporations, though they can also be private or non-traded. To qualify as a REIT, a company must meet the following regulatory requirements:
- Asset Composition: At least 75% of the REIT’s assets must be invested in real estate, cash, or U.S. Treasuries.
- Income Composition: At least 75% of the REIT’s gross income must come from real estate-related sources such as rent or mortgage interest.
- Distribution Requirements: REITs must distribute at least 90% of their taxable income to shareholders as dividends.
- Ownership Requirements: REITs must have at least 100 shareholders and cannot have more than 50% of their shares held by five or fewer individuals.
Types of REITs
- Publicly Traded REITs: These are listed on major stock exchanges, such as NYSE or NASDAQ, and bought and sold like stocks. Publically traded REITs have high liquidity, are registered with the SEC, and are subject to regular financial reporting and regulatory oversight.
- Public Non-listed REITs: Non-traded REITs are registered with the SEC but are not listed on stock exchanges and are considered illiquid. They are sold through broker-dealers and financial advisors and typically have longer investment horizons than publicly traded REITs.
- Private REITs: Private REITs are not registered with the SEC and are not publicly traded. These REITs are typically offered through private placements to accredited investors, including high-net-worth individuals and institutional investors.
| Feature | Publicly Traded REITs | Public Non-listed REITs | Private REITs |
|---|---|---|---|
| Liquidity | High, traded on stock exchanges | Low, not traded on exchanges | Very low, no public market |
| Transparency | High, regular SEC disclosures | Moderate, SEC registered | Low, limited disclosure |
| Market Volatility | High, subject to market fluctuations | Low, less affected by market | Low, less affected by market |
| Minimum Investment | Low, accessible to retail investors | Moderate, typically through advisors | High, suitable for accredited investors |
| Accessibility | High, easily bought and sold | Moderate, through broker-dealers | Low, private placements |
| Regulatory Oversight | High, SEC-regulated | High, SEC-registered | Low, not SEC-registered |
Suitability
Financial Industry Regulatory Authority (FINRA) doesn’t recommend everyone to invest in REITs because of real estate volatility risks. It is only recommend to investors who understand the real estate volatility. Private REITs are specifically sold to accredited investors and high networth individuals.
Equity vs. Mortgage (Debt) REITs
Equity REITs and Mortgage REITs offer different investment opportunities within the real estate sector.
- Equity REITs: Equity REITs own and manage real estate properties such as apartments, office buildings, and shopping complexes and generate revenue from rents. They pay regular dividends to investors and can increase in value over time. They offer steady income but can be affected by changes in the real estate market and how well the properties are managed.
- Mortgage REITs: These REITs invest in mortgage-backed securities and earn from interest payments. They offer high dividend yields but are sensitive to interest rate changes and credit risks. Mortgage REITs profit from the difference between borrowing costs and lending rates. It provides income diversification but carries high financial risk due to leverage and prepayment uncertainties.