Everything About REIT's-101
A Real Estate Investment Trust (REIT) allows investors to buy units of income-producing assets. Reit can be described as mutual fund, where assets are real estate holdings and loans secured by real property.
How can REITs make you money?
Let's look at the structure of a REIT to understand how it works and how you can make money with them. Three tiers are used, very similar to a mutual fund.
- Sponsor The major shareholders in REITs are Sponsors . The original owner of the real property asset is the sponsor, which is then encashed. The REIT's sponsor is responsible to set up and appoint the trustee. SEBI regulations require that sponsors are involved in the game. Legally, sponsors are required to own at least 25% of the units within the first three years of formation and at the minimum of 15% thereafter.
- Manager AMCs are responsible for asset management and the acquisition of new properties. They make sure that real estate assets are maintained throughout the term of an investment and get them valued and audited when necessary.
- Trustee : The Trustee of an REIT holds real estate assets under a Trusteeship. The trustee's role is to protect the interests of unitholders. They ensure that the dividends are received on time and closely monitor the managers.
All three of these people work for REIT investors: the manager, trustee, and sponsor.
You can make money as a REIT owner through capital appreciation, rental income and dividend payouts. The change in value of REITs directly correlates with capital appreciation. You can either earn rental income or interest income depending on the investment strategy used by the manager. The regulations require that investors receive at least 90% of Net Distributable Cash Flow (NDCF), every six months.
Higher levels of dividends can be earned, as well as a higher rate of capital appreciation over the long-term. REITs are the perfect combination of the risk-reward ratios of stocks and bonds and the ability to generate cash.
Types of REITs
REITs can be classified based on the asset type they hold. Below are a few examples:
- Residential REITs The main focus of Residential REITs is on residential properties. This includes but not limited to apartment buildings and manufactured housing.
- Retail REITs : These REITs invest money in commercial properties like shopping malls or retail stores.
- Office REITs :OfficeREITs invests in office space, which is directly affected by factors like the unemployment rate and the economic condition of an area.
- Mortgage REITs :MortgageREITs lend money for developers or owners of real estate. They can also buy existing mortgages and invest in real estate debt.
Why should you invest in REITs
- Diversification:Investment in REITs has additional benefits compared to simply investing in real estate directly. This segment is not closely related to other asset classes, making it an efficient method for diversification. This eliminates the need to manage directly-owned properties.
- Professional Management AMCs directly manage REITS and thus have a greater level of professional knowledge about the most profitable investment strategies.
- Regular Income -SEBI mandates that investors receive at least 90% of NDCF twice a year.
- Capital Appreciation :REITs with good performance can grow in value over time and make investors a profit.
What are the potential risks?
Like regular mutual funds REITs are susceptible to loss. There is a possibility of losing value as interest rates rise. This drives capital investment to low-risk assets such as bonds.
Market conditions are crucial to the performance of REITs. Rent levels determine payouts. Due to the current COVID-19 pandemic rentals have dropped significantly which has had an adverse effect on REITs worldwide.
Indian REITs are relatively new. Currently, there are three REITs that are publicly traded: Mindspace Business Park REITs, Brookfield India Real Estate Trust and Embassy Office Parks. Although this asset class is growing, the overall exposure to it in the country is very limited.