There are many ways to classify REITs dealing with the makeup of their pools, how they are traded and what sectors they represent.
- Equity REIT – owns properties that provide lease income to unitholders. When an equity REIT sells a property, the unitholders receive a prorated portion of the gain or loss. Equity REITS may also return capital to unitholders, which reduces the cost basis of the REIT.
- Mortgage REIT – hold mortgage notes on properties, allowing them to collect principal and interest payments from the mortgage holders. The mortgage notes act as liens, meaning the REIT can foreclose and seize a property when the mortgage holder defaults on the loan.
- Hybrid REIT – shares characteristics of mortgage and equity REITs.
By How they are Traded
Some REITs are publicly traded, while others are not. The type of REIT you choose to invest in will have a significant impact on your investment’s risk/reward tradeoffs.
- Public, exchange-traded REITs: These REITs are registered with the Securities and Exchange Commission and are first distributed through an initial public offering (IPO). The shares trade on a national stock exchange and are available to the general public.
- Public, non-traded REITs: Although these REITs are SEC-registered, they are not listed on national stock exchanges. Over-the-counter trading is performed through broker/dealers and possibly through online portals.
- Private REITs: These REITs are exempt from SEC registration and are available via private placements and/or crowdfunding portals. Normally, private REIT shares must be held for one year before they can be resold to the general public.
The following table contrasts the details concerning each of these REIT types:
|Securities Act of 1933, requires periodic, audited financial reports. Investors can read financial reports on the sec’s EDGAR database.
|As per exchange-traded REITs, plus must regularly report net asset value according to rules set by financial industry regulatory authority. Investors can read financial reports on the SEC’s EDGAR database.
|Exempt from disclosure requirements. Investors do not know what properties the REIT owns and therefore don’t know level of diversification and risk.
|Liquid. Listed on national stock exchanges like NYSE and Nasdaq. Shares easily bought and sold at current auction price.
|Relatively illiquid. Unlisted on stock exchanges, trade via secondary marketplaces, broker/dealers and mini-tenders. Issuer may periodically redeem shares at arbitrary price after minimum holding period, and liquidate, list or merge the REIT after a set period.
|Illiquid. Trade through private placements and crowdfunding to accredited investors (who must meet certain income or net wealth requirements) and to qualified institutional buyers. Can be publicly resold after a holding period of one year. Issuer may periodically redeem shares. Prices may not reflect demand/supply.
|Usually internally advised and managed
|Usually externally advised and managed
|Usually externally advised and managed
|FEES & COMMISSION
|Commissions like those for stock shares
|Typically includes up-front sales fees and commissions, capped by regulations at 15%. May also include periodic and redemption fees.
|Varies by issuer, but often structured as 2% of assets under management and 20% of profits.
|A single share
|Usually $1,000 to $2,500
|Retail-oriented REITs: $1,000 to $25,000. Institutional REITs: $100,000+
|Enough disclosed data to perform independent analysis and compare to standard benchmarks.
|Investors entitled to periodic performance data. Two approved methods to estimate share value. Lack of standard benchmarks. Returns (and risk) more likely to be boosted by leverage (borrowing money to increase investments). Must distribute dividends from inception, often requiring return of capital.
|Dark secret. Studies indicate that private REITs underperform public ones.
Most REITs specialize in one or just a few sectors:
- Office: These REITs own and/or manage commercial office real estate, leasing space in these properties to tenants or managing office buildings owned by third parties, thereby earning management fees. Office REITs do well when interest rates are low, because issuing new debt for expansion isn’t too costly. A strong business environment, which is often at odds with low interest rates, is beneficial to office REITs, because businesses find it easier to pay rents on time, and demand for leased space is strong, especially in higher-quality buildings. On the other hand, when strong business conditions raise wages, the construction costs of new properties increase, cutting ROI.
- Retail: Retail REITs own and lease retail space, including shopping malls and retail centers. Retailers, and therefore retail REITs, are very sensitive to the business cycle. During downturns, many retailers struggle (sometimes unsuccessfully) to stay in business, which depresses rents and REIT share prices. Rents from leases drop as store closures and bankruptcies create a supply overhang. A strong economy has the opposite effect. The biggest threat to retail REITs is the growth of online competition.
- Industrial: Industrial REITs earn rental and management income from industrial facilities. Many types of specialization are possible. Industrial properties are somewhat more resistant to economic cycles, because their size and complexity are usually key to the functioning of large companies that can withstand downturns that destroy many small retailers.
- Lodging: The properties owned by lodging REITs include hotels, motels and resorts. These REITs earn income from operating these facilities and by leasing space in the properties to retailers and long-term tenants. The revenue per available room (RevPAR) is a key determinant of success for lodging properties. The strength of the U.S. dollar can influence the number of international travelers visiting American lodgings – when the dollar is strong, prices for foreigners are higher in terms of their local currencies. A weak economy can benefit budget properties but threaten the margins at upscale locations.
- Residential: Residential REITs own and manage apartment buildings, student housing, single-family homes, manufactured homes and other properties. Revenues from rental properties depend on occupancy rates, rents, operating expenses and economic conditions.
- Healthcare: Healthcare REITs own and/or operate properties that provide healthcare services to tenants, such as senior communities and nursing homes. The sector also includes hospitals and medical office buildings. The rents from senior communities are tied to the services required by residents, from home health assistance to dementia supervision.
- Self-storage: The ubiquitous properties owned and managed by these REITs allow city, suburban and country dwellers to store personal and business property away from home. This is useful when space is short.
- Infrastructure: The properties owned by these REITs include telecommunication towers, data centers and other industrial infrastructure properties. The REITs derive income from rents and management fees.
- Data centers: These REITs own and/or manage facilities that store data and provide computing and communications facilities. They collect rent and management fees from customers who want to securely access data and servers without expending the capital necessary to purchase these facilities.
- Specialty: These REITs own and collect rent from a mixed bag of properties, such as movie theaters, billboards, and other properties that don’t conform to major sectors.