Owning an Equity REIT vs. a Mortgage REIT: What's the Difference?

Equity vs. Mortgage REITs: An Overview

There are several different types of real estate investment trusts (REITs) including equity REITs, mortgage REITs, and hybrid REITs. A REIT is a type of security in which the company owns and generally operates real estate or real estate-related assets. REITs are similar to stocks and trade on major market exchanges.

REITs allow companies to buy real estate or mortgages by using combined investments from its investors. This type of investment allows large and small investors to own a share of real estate.

A significant percentage of equity REIT profits are paid to investors as dividends. Equity REITs tend to perform better when interest rates are low and property prices are rising. However, the intricacies of the different markets covered by equity REITs means that there are almost always opportunities available.

Equity REITs

Equity REITs invest in hard real estate assets. Equity real estate investment trusts' revenues are mainly generated from rental incomes from their real estate holdings. Equity REITs typically invest in office and industrial, retail, residential, and hotel and resort properties.

An example of an equity REIT is Diversified Healthcare Trust (DHC).  Equity REITs generate income from rent on properties as well as by buying undervalued properties and selling them for a profit. Some equity REITs are diversified and invest in several different categories of real estate, such as retail spaces and apartments.

The Kilroy Realty REIT (KRC) is an example of a diversified REIT. Other REITs focus on narrower segments of the real estate market, such as retail, as with the CBL & Associates Properties Inc. REIT (CBL), or hotels, such as Sotherly Hotels Inc. (SOHO). 

Mortgage REITs

Mortgage REITs invest in mortgages only, and they make up less than 10% of the REIT market. While equity REITs typically generate their incomes from renting out real estate, mortgage REITs mainly generate their revenues from the interest that earned on their mortgage loans.

An example of a mortgage REIT is the Apartment Investment and Management Company REIT (AIV). REITs such as AIV earn money by charging interest on money lent to borrowers to finance property purchases. They also trade and invest in mortgage-backed securities. There are commercial mortgage REITs, such as the Capstead Mortgage Corporation REIT (CMO), and residential mortgage REITs, such as the Anworth Mortgage Asset Corporation REIT (ANH). Some mixed REITs, such as Dynex Capital Inc. REIT (DX) invest in both commercial and residential REITs.

As with equity REITs, the majority of mortgage REIT profits are paid to investors as dividends. Mortgage REITs tend to perform better in times of rising interest rates. However, like equity REITs, there are so many different target markets that mortgage REITs almost always have investment opportunities available.

Hybrid REITs

Hybrid REITs invest in both properties and mortgages. There are only a few REITs that actually engage in both types of business activity; the Two Harbors Investment Corp. REIT (TWO) is an example of one. Two Harbors invests in residential mortgage-backed securities, residential mortgage loans, and residential real properties and assets.

By investing in both mortgages and hard assets, hybrids REITs like Two Harbors take a more balanced approach and may be able to profit in both rising and falling interest-rate environments where traditional equity only or mortgage only REITs can struggle.