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A Real Estate Investment Trust (REIT) is a type of investment vehicle that allows individuals to invest in income-producing real estate assets without directly owning, managing, or financing the properties themselves.
REITs are traded on stock exchanges, and they offer several advantages for investors interested in real estate.
The primary difference between a REIT and the stock of a public company or an ETF is that REITs come with a mandate that obligates them to distribute most of their earnings as dividends, which is why they typically have a much higher dividend yield than even the most popular dividend aristocrat stocks.
Owning REITs has a few advantages over holding individual pieces of real estate, which are:
- Legal Structure: To qualify as a REIT under U.S. tax laws, the entity must meet certain criteria, including distributing at least 90% of its taxable income to shareholders in the form of dividends. This favorable tax treatment enables REITs to avoid paying corporate income taxes at the entity level
- Diversification: Investing in a REIT provides investors with exposure to a diversified portfolio of properties across different sectors and geographic locations. This diversification can help spread risk
- Liquidity: Unlike owning physical real estate, which can be illiquid and require significant capital, investing in REITs provides liquidity. REIT shares can be bought and sold on stock exchanges during regular trading hours, offering flexibility to investors
- Dividend Income: REITs are known for their dividend yields, as they are required by law to distribute a significant portion of their earnings to shareholders. Investors often choose REITs for the regular income they provide
- Capital Appreciation: In addition to dividend income, investors may also benefit from capital appreciation as the market value of REIT shares can increase over time
- Transparency: REITs are required to provide regular financial reports and disclosures, making it easier for investors to assess their financial health and performance
REIT Example - American Tower Corp (NYSE:AMT)
Let’s look at an example of the American Tower Corporation, which is a real estate investment trust that specializes in wireless and broadcast communications infrastructure, such as towers and data centers.
As we can see, the price chart of AMT is similar to any other stock. The core difference is its relatively modest price performance, which is subsidized by its high dividend yield of 3.52%.
If we view the latest financial results from the Q2 2023 earnings report, we will see the following:
- Quarterly revenues of $2.77 billion
- Quarterly net earnings of $475.7 million
Such high profit margins are characteristic of REITs, as most of their revenue is generated from rental income and property sales.
Therefore, the main risk associated with REIT investments is in their ability to generate enough dividend income for shareholders to cover for potential decline in stock price performance.
REITs offer a more organized and simple method of investing in real estate and generating stable cash flows via dividend payments.
Types Of REITs You Can Invest In
While most REITs function similarly, the types of real estate they invest in varies greatly, which affects their inherent risk exposure and financial performance.
The types of REITs you can invest in include:
- Equity REITs: These are your typical real estate investment trusts and may invest in anything from residential, hospitality and commercial real estate, to office, healthcare and industrial facilities
- Mortgage REITs (mREITs): Unlike equity REITs, mREITs do not own physical properties. Instead, they invest in real estate-related debt securities, such as mortgages and mortgage-backed securities
- Hybrid REITs: These REITs combine elements of both equity and mortgage REITs. They may invest in a combination of physical properties and real estate-related debt instruments. Hybrid REITs aim to achieve a balance between income generation and capital appreciation
Other, more specialized types of REITs, such as the one discussed in the previous section, invest in data centers, cell towers, and other vital infrastructure.
