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About Me

Darren Winters is a self made investment multi-millionaire and successful entrepreneur. Amongst
his many businesses he owns the number 1 investment training company in the UK and Europe.
This company provides training courses in stock market, forex and property investing and since
the year 2000 has successfully trained over 250,000 people.

Tuesday, 6 May 2014

Real Estate Investing - The Role Of REITS

If you have a mortgage then you're already invested in real estate, no doubt with the not unrealistic expectation of seeing your asset appreciate in value. In spite of the periodic concerns about rising prices fuelling an unsustainable bubble, real estate in the UK, especially in London, continues to promise a healthy return on investment. 
Apart from direct investment in a property, another way to enter the real estate market is to buy shares in a REIT - a Real Estate Investment Trust. REITs come in three flavours: -
1. An equity REIT, which uses your money to buy and manage commercial and rental property.
2. A mortgage REIT, which buys the mortgages on properties at an advantageous rate of interest, with the intention of profiting on the difference between that and the higher interest rate the occupiers of those properties are paying.
3. A hybrid REIT, which contains both property and mortgage elements.
The principle is similar to ordinary investment trusts - you are pooling your money with other investors to own a portion of a real estate asset, which will ideally gain in value, and provide you with an income stream in the form of a guaranteed dividend. It's a bit like owning property without the hassle of maintaining and selling it. 
A word of caution though - not all REITS are publicly traded. The untraded versions are obviously less liquid, and can be subject to early redemption penalties. There's also less company information available to the prospective investor in many cases. So if liquidity is an important factor in your investment decision you need to sort the traded REITS from the un-traded before proceeding.
REITs are seen as a good vehicle for investors seeking income, because in order to exist as a REIT the company must pay out 90% of its operating profit in the form of a dividend. At the same time (where publicly traded), the shares retain the characteristics of an ordinary share tradeable on the stock exchange.
REITs originated in America in the 1960s, and were introduced into the UK in 2007. So as an investment vehicle they are arguably less familiar to investors here. Since then however, a number of property companies have converted to REIT status. From their perspective, being structured as a REIT has significant tax advantages - there is no corporation or capital gains tax payable, which means there's more capital available to add to the dividend pot.
From the investor's point of view, the advantages of being in a REIT as opposed to direct real estate investment include:
  • Being invested in a company with multiple categories of property that provide a level of diversification, thereby diluting risk.
  • High rate of distribution of profits of the company to investors in the form of a guaranteed dividend (unlike a regular company, which pays dividends on a discretionary basis)
  • Liquidity. Unlike regular property, you can sell your shares quickly in a publicly traded REIT.
Some disadvantages include:
  • In a financial crisis such as that of 2008, A REIT heavily invested in mortgages is susceptible to mortgage defaults, which affects its profitability.
  • Paying out 90% of profits in dividends, while good for investors, leaves only 10% to re-invest into further propery acquisition, possibly slowing growth.
  • The very liquidity that makes a REIT attractive also makes it volatile.
So if you were thinking about buying into a REIT, here are some factors to guide your research:
  • Check out the management team. What is their track record like in terms of strategy and property investment choices? Are they paid on performance? If so, their interests co-incide with yours.
  • How are they diversified? Is there a spread of investment across different property categories? Good diversification reduces risk.
  • Look at past financial statements to see how much cash was available for distribution, and whether that amount is increasing annually.
  • Are the types of property they invest in likely to produce good returns? For example, if they are heavily into retirement and nursing homes there is an argument that the ever aging population will ensure a continuous occupancy rate. On the other hand, if they're concentrated in commercial property and the economy suffers, then tenancy of offices will also suffer.
In terms of performance, there is data showing that REITs outperformed the S&P 500 index on a consistent basis over 30- 40 years at around 2%. But currently there are concerns in some quarters that higher interest rates will adversely affect REIT performance. Higher interest rates hit building industry borrowing costs. The riposte to this argument is that higher interest rates also mean higher levels of income for REITs holding mortgages, and that it's a sign that the economy overall is doing better, which should boost property values. 
This year started strongly, with the FTSE NAREIT All REIT Index gaining 3.3%. In February this increased to 4.69%, fell in March to 0.32%, and ended April at 2.88%. An alternative to a REIT is a Real Estate Mutual Fund, which invests in REITs and other property companies. Instead of receiving an income your money is retained in the fund itself, so your units continue to appreciate. There is of course the issue of management charges and the tendency of mutual funds to underperform the broader market, but there is arguably less research to do before taking the plunge. 
A couple of links that should assist you in getting a handle on the performance of mutual funds are:

In conclusion, REITS offer the investor an opportunity to get involved in the real estate market and receive a regular income, while at the same time offering liquidity in the form of a tradeable instrument (for tradeable REITs). Real Estate Mutual Funds offer the same market segment without the income, but with the potential for growth in unit value over time.


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