Real estate investment trusts (REITs) own a basket of properties, ranging from malls to movie theaters, apartment buildings to office parks, hotels to hospitals. (For more, see: Residential, Healthcare and Office REITs.) 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 enhance the services of an underutilized building, increasing demand. (For more details, see Analyzing REITs and REIT Performance.)
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, millennials favor 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 are supply 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 to always 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 $2.30 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.
For related reading, see: What Are the Risks of Real Estate Investment Trusts (REITs)?
Dan Moskowitz does not have any positions in AKR.