We continue the cycle of reviews by sectors of the US market. Do you want to invest in real estate? Buy REIT papers.
Real Estate Investment Trust (REIT) — company, who owns income-generating real estate or finances related operations.
There are two main types of REITs: equity (Equity, enter the real estate sector) and mortgage (Mortgage, enter the financial sector). Besides, there are hybrid REITs.
Shares collect rent from their properties, it is also possible to receive income from the sale of real estate from the portfolio. This tool allows you to invest in a portfolio of real estate and receive regular income from their operation.. Mortgage – receive income from investments in mortgages or mortgage-backed securities, related commercial and residential real estate.
Publicly traded REITs are similar to stocks and circulate in large numbers on the U.S. market.. Let's talk about their evaluation..
Signs of REIT
To meet REIT specifications, the company must:
– invest minimum 75% total assets in real estate;
– receive minimum 75% gross income from rent, interest on mortgage investments, financing real estate, or from the sale of real estate;
– pay not less than 90% taxable income as dividends;
– pay taxes as a corporation;
– managed by the board of directors or trustees;
– have not less than 100 shareholders;
– 5 or fewer persons should not own more 50% Shares.
Benefits of REITh
• Liquidity
This distinguishes REIT securities from direct investments in real estate., which are often indivisible and have a high barrier to entry. In the US market, more than 250 Paper REITs, and outside the United States, even more so. 400.
Securities are like stocks, these are exchange instruments, they can be traded during each trading day. REIT, placed securities on American exchanges, report to the U.S. Securities and Exchange Commission (SEC).
• Regular income
Due to regulatory features, many REITs are characterized by high dividend yields - about 4% annual average for US equity securities. In some cases, we are talking about 6-10% per annum.. Revenue in US dollars is much higher, than the average yield S&P 500 (about 1,3%). In the long term, a high dividend yield significantly increases investments due to the effect of compound interest..
Dividend yield of the S index&P 500Dividendensal return of the S index&P 500
• Diversification
At long time intervals, REITs have a low correlation with the rest of the US stock market.. Investments can reduce portfolio volatility. Besides, REITs will make the portfolio more diverse.
• Inflation insurance
Usually, property values and rents increase following inflation. According to NAREIT, for the latest 20 years in 18 on average, the increase in dividends on REITs outpaced the growth of consumer prices. In the long term, the growth of the us debt burden can increase inflation.
Dynamics of the CPI index in the US over the past 70 Years The dynamics of the CPI index in the UNITED STATES over the past 70 years
RISKS OF REIT
Like promotions, REITs are exposed to market risk. Besides, the dynamics of their prices and dividends depend on the cycles in the real estate market, the state of the economy and the level of interest rates.
REITs are more reliable in this regard., focused on providing space for the healthcare sector, or, against, diversified structures, who have more stable sources of income.
Specialized Mortgage REIT Risks:
• Interest rate risk. Rising rates could have a positive impact on REIT's net interest margin. At the same time, the value of the structure's mortgage assets will fall.. Mortgage REITs try to manage this risk with the help of hedging strategies in the derivatives market and targeting the average return on assets..
• Credit risk. In the case of REIT, oriented to the residential real estate market, it is minimal. Such structures prefer to invest in agency securities, insured by the U.S. government.
• Risk of early repayment. Related to, that the borrower can repay his debt ahead of schedule (mortgage), and in this case, the lender will be forced to reinvest the returned funds in a less profitable investment instrument. This risk is an interest rate risk and is also hedged by many REITs..
+ It is worth mentioning the increased tax on dividends on securities. For Russians, who bought shares on the Moscow or St. Petersburg Stock Exchange — 30% (for other U.S. stocks, collectively 13% for investors, who have signed the W-8BEN form with the broker).
How to Invest in REITs
1) Securities on St. Petersburg Exchange
2) ETF on the Moscow Exchange - FXRE includes more than 120 U.S. Real Estate Companies
4) U.S. ETF – Largest Vanguard Real Estate ETF (VNG)
5) Mutual information (closed-end mutual funds) on MosBirzh
REIT Score
Macro Level – Is It Worth Investing in REITs
General Trends in the US Stock Market – Market Risks. The largest ETF on REITs is the Vanguard REIT Foundation (VNQ). Analyzing schedule this instrument, can be understood, where the REITs segment as a whole is located in terms of market conditions.
Vanguard REIT ETF chart for 10 years Vanguard REIT ETF Chart for 10 years
Interest rates. ReITs generally negatively depend on the dynamics of market interest rates, which can be clearly seen on the Treasuries yield charts. In addition to the factor of lending in the real estate segment and the impact of rates on the balances of REITs, there is one more point. The lower the yield of US government bonds, the more competitive dividend sectors, which include REITs. Focus on the dynamics of Treasuries yields, primarily long issues (10- and 30-year-olds), and mortgage rate behavior. Benchmark in the US – fixed rate on a 30-year mortgage.
Read also: « The Universe of Trejars. Not just a tool, but also a key benchmark"
Situation on the real estate market. Tied to economic cycles. Usually, the real estate market begins to weaken before the beginning of the general economic downturn. Low interest rates can support the segment, but if the economy slows down, then consumer sentiment is starting to deteriorate early., the population begins to be afraid to take a mortgage, less visits to shopping malls, etc..
The most well-known indicators of the residential real estate market are the number of new buildings and building permits. (housing starts and building permits), sale of houses in the primary and secondary market (new home sales and existing home sales), Case Shiller Residential Property Price Index. NCREIF Property Index reflects the prices of commercial real estate in the United States – office, warehouse, in the field of retail, etc.. National Rent Index reflects the dynamics of the cost of rent in the States.
Sectoral level — asset structure
Allows you to understand, what exactly are you investing in and what is most suitable for the current stage of the economic cycle, and how reitit corresponds to your risk appetite.
There are office (Office), industrial (Industrial), retail (Retail), Hotel (Lodging), housing-related (Residential), Forest (Timberland), health care (Health Care), Warehouse (Self-storage), infrastructural (Infrastructure), diversified (Diversified), specialized (Specialty) share REITs.
Mortgage REITs are more complex to analyze. General Rule – In the Case of Mortgage REITs, oriented to the residential real estate market, credit risk is minimal. Such structures prefer to invest in agency securities, insured by the U.S. government. More Reliable - REITs, focused on providing space for the healthcare sector, or, against, diversified structures, who have more stable sources of income.
Microlead – Choice of Specific Papers
Financial metrics. The most well-known indicator is FFO (funds from operations). FFO equals net profit, to which the depreciation of the property is added and from which the profit is deducted (losses are added) from the sale of real estate. A kind of analogue of the cash flow indicator. Adjusted Funds From Operations (AFFO) is an adjusted version of FFO, taking into account regular income and expenses. To calculate the AFFO, an increase in rental income is added to the FFO, capital expenditures and normal costs for maintaining the property in proper condition are deducted. FFO and AFFO values can be found in REIT reporting. It is useful to track them in dynamics - for 1, 3, 5 years.
Multipliers. P/FFO and P/AFFO ratios allow you to compare papers with each other. Other things being equal, the lower the multiplier, the more attractive the paper. The ratios are available in the databases of Reuters and Bloomberg. In the public domain, they are often not easy to find. Those who wish to analyze REITs in detail can calculate them independently. If P/FFO and P/AFFO are difficult to obtain, then traditional P/E can come to the rescue, although the conclusions obtained with it may be less correct.
Dividend factor. American REITs are required to pay at least 90% taxable income as dividends. Due to regulatory features, many REITs are characterized by high dividend yields.. In the case of the largest REITs of the S&P 500 dividend yield is relatively moderate, now characteristic values 3-5% per annum. To assess the sustainability of payments, it is worth paying attention to the dividend history of the fund., level of payments from income, debt burden of the enterprise.
Technical analysis. In the case of liquid securities made of S&P 500 technical analysis helps with determining the correct zone for entering or exiting a position. Long timeframes are useful – at least a year, since this segment is dividend-paying, which means, more useful for long-term investors. To "catch" possible strong movements in a separate tool, for example, in case of inadequate, In your opinion, collapse of quotations, more local charts will come to the rescue.
More useful information for investors you will find on BCS Express.
