Hello! Enjoy this blog post from a blog friend of mine, Joseph Hogue.
Investing in REITs provides the benefits of real estate ownership without the burdens of buying and managing individual properties. Read on to learn why REITs deserve a place in most investors’ portfolios.
Since Will Rogers famously commented on real estate investing in the 1930s, generations of investors have sought their share of property profits. Few asset classes have created as many family legacies or generated as much wealth as real estate.
My own real estate journey began in 2002 after leaving the Marine Corps. I worked as a commercial property agent and rehabbed single-family houses for rental income in my spare time. Of all the passive income strategies I’ve pursued, real estate has been my favorite,
…and also one of the most frustrating.
The promise of a six-figure passive income while renters magically pay off mortgages and checks roll in with no effort is far from reality. At one point I owned six properties, and by 2006 I had sold most of them. Late-night calls for repairs and recordkeeping can turn property ownership into a part-time job.
I still own a few rental properties, but I’ve found a better way to invest in real estate—an option that captures the upside of property investing without tenant headaches or large down payments.
Beyond steady income, this type of investment has outperformed stocks over the past several decades. It’s one of the few asset classes most investors should consider adding to their portfolios.
Related: 12 Passive Income Ideas
Real Estate Investing without the Headaches and Hassles
Real estate investment trusts (REITs) were created by federal law in 1960. These companies own and operate income-producing real estate and, provided they distribute at least 90% of taxable income to shareholders, they avoid corporate income tax. That tax treatment is a major structural advantage.
Because of this advantage, REITs collectively hold more than $2 trillion in commercial real estate in the U.S. and around the world. Large companies have sometimes considered spinning off property into REITs and leasing back space to take advantage of the tax benefits.
For investors, REITs are an attractive source of income. According to the National Association of REITs (NAREIT), the average dividend yield for REITs is about 4.1%, roughly double the typical yield of the S&P 500, which averages near 2.1%.
Most REITs specialize in a property type—office, industrial, healthcare, retail, or multifamily housing, for example. They manage portfolios of properties and sell shares to investors through public markets, providing access to commercial real estate without direct property ownership.
The primary advantages of REIT investing are diversification and professional management. By owning shares in a REIT, you gain exposure to hundreds of properties across multiple markets, reducing the risk tied to any single local economy or rental market—an important benefit compared with owning a few individual properties.
In addition to income from dividends, REITs have delivered solid capital returns historically. Over the long term, REITs averaged strong annual returns through 2013—outperforming the S&P 500 on a multidecade basis.
How to Invest in REITs
There are hundreds of REITs available, so diversification is important. Spread your holdings across multiple REITs with different property types and geographic footprints to reduce company-specific and market-specific risks.
Many investors choose to buy shares of a REIT fund or ETF rather than individual REIT stocks. A fund like the Vanguard REIT ETF (NYSE: VNQ) holds many REITs—spreading your investment across office, industrial, retail, and residential property owners and across regions—providing instant diversification.
REITs may not match the upside of developing or directly owning individual properties, and some investors value the tangible control and satisfaction of property ownership. Nevertheless, for generating passive income with relatively low hands-on effort, REITs are hard to beat. As with any investment, avoid concentrating all your assets in a single sector, but allocating a portion of your portfolio to REITs is a prudent consideration for most investors.
Author bio: Joseph Hogue, CFA, is an investment analyst.
Are you considering investing in REITs? Why or why not?