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| The Basics | REITs: Own real estate without the hassle
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Many real-estate investment trusts have gained in appeal as they gained in value in a down market. And in this kind of real-estate investing, you'll never have to fix the plumbing.
By Mary Rowland
Back at the beginning of 2000, there may have been nothing hotter on earth than stocks -- and nothing colder than REITs.
The lowly real-estate investment trust, or REIT, seemed a mere haven for has-beens. REITs are companies that manage portfolios of property investments, earning money from rent and other fees -- and paying out much of their annual income in the form of dividends to stockholders. While investors flocked into shares of tech companies as the late-1990s stock bubble expanded, they fled from the trusty-but-undramatic performance of REITs.
And yet, therein lies one of the REIT's primary charms: REITs tend to have a negative correlation with the stock market. That means when the Nasdaq Composite Index ($COMPX) zigs, REITs zag. And while REIT shares suffered in the late 1990s, they have flourished during the vicious bear market that began in 2000.
Annual dividends
REITs have other charms as well. For individual investors who want to put money into real estate, REITs offer perhaps the most accessible path without any of the expense and difficulty of buying properties directly.
And then there are the dividends. REITs are exempt from federal tax so long as they distribute at least 90% of taxable income to investors each year. REIT dividends can reach 8% to 9% a year, and they offer a soothing sense of predictability that the market usually cant match. It must be noted, however, that REIT dividends are fully taxable. And even if taxes on stock dividends are lifted, as President Bush proposes, REIT dividends wouldnt share in the benefit. (To qualify for the benefit under the Bush plan, REITs would have to pay income taxes.) This makes REITs an often-poor choice for taxable accounts, as REIT dividends are considered income by the IRS. As a result, REITs are best placed in a 401(k) or other tax-deferred account.
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All that said, the REIT dividend payout can be an attractive feature, making REITs more stable than stocks. Many stocks, particularly high-growth stocks like those in the technology industry, dont pay dividends at all, meaning shareholders must depend entirely on appreciation in the stock for whatever return they get. The dividend component of a REIT provides a cushion.
Variety of flavors
REITs can invest in a wide variety of real property including shopping malls, office complexes, apartment buildings or hotels. They can also invest in mortgages on real estate properties. For investment purposes, ownership of these properties is sliced up into shares and traded on the stock exchange. REITs invest directly in these properties and pass the income and capital gains on to the shareholders.
REITs trade on exchanges just like stock. And while they all own real property, theyre not necessarily diversified. For example, Simon Property Group (SPG, news, msgs) owns shopping malls. Plum Creek Timber (PCL, news, msgs) is in the timber business. Equity Residential (EQR, news, msgs) owns apartment buildings.
Buying a REIT like Simon Property or Plum Creek Lumber is akin to buying an individual stock. It requires research. And there are plenty of tools on MSN Money to aid in that research, beginning with the Stock Screener. The Research Wizard, meantime, will walk you through myriad details about each company.
Barry Vinocur, the highly respected editor of the Realty Stock Review, has long recommended Tanger Factory Outlet Centers (SKT, news, msgs), a REIT managed by Stanley K. Tanger and his son, Steve, from Greensboro, N.C. Last year the company, which operates some 30 retail outlet centers in 21 states, repositioned its portfolio and delivered a return of more than 60%.
REIT mutual funds
But Vinocur believes most investors should enter REIT investing by way of mutual funds. A REIT mutual fund is a diversified group of REITs, just as a mutual fund is a diversified group of stocks. There are a number of ways to buy REITs in a fund:
Actively managed mutual funds. These baskets of diversified REITs are Vinocurs favorites, as he believes theres less efficiency in the REIT market than in stocks, and that a manager who sifts carefully through the data can make a big difference. In fact, more than 50% of managers outperform the index, he says.
I went to the funds section of MSN Money and clicked on Deluxe Search; I asked for Specialty RE Funds ranked by one-year total return with a 0% load, meaning no up-front fees. One high-ranking fund is Alpine Realty Income and Growth (AIGYX).
Passively managed mutual funds. The prime example is the Vanguard REIT Index (VGSIX), which essentially duplicates the results of a broad REIT index.
Exchange-traded funds. These trade like stocks on the American Stock Exchange and are available for a number of real estate indexes. The big advantage: very low fees. State Street manages a Wilshire REIT Index (RWR, news, msgs). Dow Jones also offers a real-estate index (IYR, news, msgs) , as does Cohen & Steers (ICF, news, msgs), one of the big firms in this business.
Closed-end funds. These are REIT-focused mutual funds, but unlike traditional open-end funds that sell as many shares as investors want, closed-end funds raise money only once and offer only a fixed number of shares. Since the bear market started in 2000, closed-end funds have become very popular with sponsors, including Cohen & Steers and Nuveen, raising some $3 billion for new funds. The funds are paying dividends in the 8% to 9% range, Vincour said. Cohen &
Steers operates the Cohen & Steers Quality Income Realty Fund (RQI, news, msgs). Nuveen sponsors the Nuveen Real Estate Income Fund (JRS, news, msgs).
Be forewarned, however. These closed-end funds tend to be more leveraged than other REITs, meaning they are far more reliant on debt to fund operations. That makes such funds less than ideal for diversification purposes.
Recommended allocation
Financial advisers often recommend that investors looking to build diversified portfolios should allocate 10% to 20% of their holdings to REITs. Its clearly one of the best asset classes to consider as a counterweight to stocks.
To get a better idea of how REITs perform compared to stocks, go to MSN Moneys Stocks section and call up the charts for Tanger Factory Outlets and compare its performance with the S&P 500. Type in the ticker for Tanger, SKT , and click on Charts in the left navigation bar. On the right side where it says Compare with, type in the second ticker, $INX, for the S&P 500. Go to the top bar and click on Period. I like to look at the three-year performance because thats when my stock portfolio threatened to disappear.
At the time of original publication, Mary Rowland owned none of the equities mentioned in this article.
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