One way investors can diversify their portfolio and collect income is by buying REIT stocks. REIT stands for real estate investment trust. These type of companies own and operate income producing real estate or other related real estate assets.
In other words, this type of investment gives individuals an opportunity to profit from commercial real estate ownership, without actually owning the property.
Of course, for a company to be classified as a REIT, it must meet several criteria.
Qualifying As A REIT Stock
The firm must invest at least 75 percent of its total assets in real estate assets and cash. In addition, it must derive at least 75 percent of its gross income from real estate related sources, including rents from real property and interest on mortgages financing real property.
REIT stocks must distribute at least 90% of its taxable income to shareholders annually in the form of dividends.
In addition, REIT stocks must be:
- Taxable as a corporation
- Have no more than 50% of its shares held by five or fewer individuals during the last half of the taxable year
- Derive at least 95% of its gross income from real estate activities and dividends or interest from any source
- Have no more than 25% of its assets consist of non-qualifying securities or stock in taxable REIT subsidiaries.
Types Of REIT Stocks
Equity REITs – This REIT invests and owns properties. It acquires, manages, builds, remodels, and sells real estate assets. Revenues are generated from its rental properties. An Equity REIT will invest in several different forms of real estate, this includes: hotel, residential, industrial, commercial and retail.
Mortgage REITS- These type of REIT stocks provide financing for income-producing real estate by purchasing or originating mortgages and mortgage-backed securities. In addition to earning income from the interest on these investments.
Hybrid REITs – A combination of an equity REIT and mortgage REIT. That is, they may own property, as well as, invest in mortgage loans or mortgage-backed securities.
Top 4 Mortgage REIT Stocks
Annaly Capital Management REIT (NYSE: NLY) – The firm invests in and finances residential and commercial assets. In addition, Annaly invests in mortgage-backed securities and similar derivatives to hedge its investments.
The company uses its capital and other structured financing products to invest in assets in both commercial and residential markets, earning the spread between the yield on its investments and the cost incurred from borrowing and hedging.
Annaly has a market cap that exceeds $12B. The firm also offers investors an annual dividend of $1.20 per share.
AGNC Investment REIT Corp (NYSE: AGNC) – An internally manged REIT that invests mainly in agency residential mortgage-backed securities through the use of leverage. Financing is done through collaterlized borrowing structured as repurchase agreements.
As of December 31, 2017, the firm had a portfolio consisting of $72.8B in securities, including $56.2B in residential mortgage-backed securities.
The firm has a market cap of more than $7B and offers investors an annnual dividend of $2.16 per share.
New Residential Investment REIT (NYSE: NRZ)- The firm invests in, and actively manages assets related to residential real estate. It investes in excess mortgage servicing rights on residential mortgage loans, and in servicer advances, including the basic fee component of the related mortgage servicing rights.
A mortgage servicing right provides a mortgage service with the right to service a pool of mortgage loans in exchange for a fee. The company believes it has an edge due to its capital, experience, and business relationships to take advantage of market conditions caused after the financial crises.
The firm has a market cap of more than $5B and gives investors an annual dividend of $2 per share.
Simon Property Group, Inc. (NYSE: SPG) – Recognized as a leader in the retail real estate space. The firm owns and manages retail properties across North America, Europe, and Asia.
The company is the largest global owner of retail real estate, including Malls, Simon Premium Outlets, and the Mills.
Source: Simon Property Group
A member of the S&P 500, Simon has a market cap exceeding $50B and has an annual dividend of $7.40 per share.
Risks Involved Trading REIT Stocks
During the financial crisis in 2008, REIT stocks got hit harder than most sectors. The index of equity REITS, which consist of entities that own commercial property, were down approximately 50%.
In fact, many of them were trading at a discount relative to the assets they held.
That said, monitoring the health of the real estate market is important before deciding to investing in a REIT stock. In addition, you want to pay attention to where assets are primarily located, and if those areas are showing signs of economic strength.
Economic indicators worth watching include: Jobless Claims, GDP, Consumer Price Index, Housing Starts, Housing Market Index, Consumer Sentiment, as well as, the FOMC interest rate announcement.
Some of these REIT stocks invest in commercial and retail property. If the economy is booming, its more likely that people visit malls, go out and shop. However, during tough economic times, consumers become more conservative and spend less money.
This can affect occupancy rates, as well as, the price for rental properties.
Another concern investors should have is the state of the interest rate market. When interest rates rise investors have more options to place their money. For example, one of the appeals of REITs is that they offer dividends. However, a safer investment would be a bond.
In addition, when interest rates rise borrowing becomes more expensive. This has the potential to slow down the commercial real estate market. Of course, when interest rates drop, money becomes cheaper to borrow.
Bottom Line On REIT Stocks
During the financial crisis of 2008, REIT stocks got crushed. After that, the Federal Reserve Bank decided to cut interest rates, making money cheaper to borrow. This low interest rate policy allowed for the real estate market to make a comeback.
REIT Stocks offer investors an opportunity to generate an income. In addition, they allow them to gain exposure to the real estate market without actually owning any physical property. It’s a lot easier to liquidate a REIT than it is a piece of property.
Lastly, REITs do not pay corporate taxes which means investors are taxed at the individual tax rate for the income portion of their dividend. However, you’re taxed on capital gains if the REIT sells assets.
Overall, there are a number of reasons why investors should look at REIT stocks. Make sure to do your own due diligence before making any investment decisions.