With Treasury yields back near historic lows, income-starved investors hunting for additional revenue streams have turned to exchange traded funds that invest in real estate investment trusts.
With bond yields scraping along the bottom and interest rates depressed until mid-2013, investors are looking to other forms of investments that offer any slight chance of decent yields. As a result, REITs have attracted their fair share of market interest. Assets in the ETF category surged 60% over the past year, party due to market appreciation. The asset class climbed nearly 200% since the March 2009 lows and gained more than two times the broader U.S. market.
REITs are securities that are traded like stocks on major exchanges. REITs can hold physical properties that generate revenue from rent payments, or REITs may be mortgaged based, which means they invest in property mortgages through either loaning money for mortgages or purchasing existing mortgages and other mortgage securities. A hybrid type REIT holds both mortgages and physical properties.
The Different Forms of REITs
Retail REITs provide the average retail investor with exposure to the commercial real estate market, such as shopping malls, office buildings or warehouses.
Residential REITs own or operate multi-family rental apartment buildings and manufactured housing.
Healthcare REITs invest in hospitals, medical centers, nursing facilities and retirement home homes. Since a majority of operators rely on fee reimbursements, health care funding will be a major factor driving performance.
Office REITs invest in office buildings and receive rental income on long-term leases. The state of the economy, unemployment rate, vacancy rates and capital are all deciding factors in this sub-sector.
Mortgage REITs account for around 10% of REIT investments. Increases in interest rates could decrease mortgage REIT book values and future financing would be more expensive.
How REITs Work
The companies generate revenue from rent collected on properties. REITs then pay out a hefty chunk of their net income to shareholders through dividends in order to qualify for federal tax breaks.
By pooling the assets together, REITs reduce risk and provide greater diversification since capital is distributed through numerous properties. If an individual were to mimic such a strategy, one would have to buy multiple properties, which is of course impractical for the average person.