A real estate investment trust, more commonly referred to as a REIT, enables investors to pool their resources, which investment managers then use to buy assets.
But what are the advantages and disadvantages of investing in REITs, and should you consider them? Let’s break it down.
What are REITs?
REITs are investment trusts that own or finance income-generating real estate. They are traded on the London Stock Exchange, meaning that they are easy to invest in and highly liquid.
More specifically, REITS are property stocks that have registered for special status in order to acquire certain tax advantages (like not having to pay UK corporation tax).
Under the REIT regime in the UK, 75% of the company’s assets must be properties that are available to rent. And 75% of profits that these companies generate must come from rental income.
REITs usually sign their tenants to long-term leases, meaning their income tends to be quite reliable. And, the vast majority of this income is shared out to investors in the form of dividend payments.
In fact, in exchange for receiving those tax advantages described above, REITS are obliged to distribute a minimum of 90% of annual net profits to shareholders by way of dividends. This makes them especially popular stocks with income investors.
REITs in the UK tend to focus on one specific type of property segment. However, some offer exposure to a multitude of real estate classes, providing added investor protection through diversification. Property segments include:
- Retail properties
- Office blocks
- Industrial spaces
- Residential real estate
- Healthcare properties
- Warehouses and distribution complexes
- Data centres
Types of REITs
While most real estate investment trusts follow a similar business model, the approach to generating income can vary significantly, as can their corporate structure. As such, there are a variety of REIT types for investors to consider.
- Equity REITs – This is the most common type, providing investors access to portfolios of income-generating assets across the property segments such as warehouses, office buildings, retail parks, healthcare facilities, etc.
- Mortgage REITs – Instead of investing in assets, mortgage REITs, or mREITs, provide the financing for income-producing real estate, earning interest to fund shareholder dividends.
- Private REITs – These trusts are typically only available to institutional investors as they do not trade on a stock exchange and are exempt from many regulations that equity REITs have to follow.
- Public non-listed REITs (PNLRs) – In the US, PNLRs are registered with the Securities Exchange Commission (SEC) but do not trade on a stock exchange, making liquidity sometimes challenging.
What are the benefits of REITs?
Buying real estate using an investment trust rather than through a direct investment comes with quite a few advantages.
- Accessibility – Unlike direct investment, REITs enable investors to own a piece of real estate even with only a few hundred pounds in the bank. There’s no need to go into debt with a mortgage or save up for a downpayment on a property.
- Diversification – REITs open the door to ownership of properties that may be too expensive to own directly, such as hospitals, wind farms, and warehouses. This grants exposure to the more lucrative commercial and industrial segments of the real estate market rather than just residential.
- Liquidity – Buying and selling property directly can be a lengthy process, taking weeks or even months. However, since REITs trade like stocks on an exchange, it’s possible to buy and sell almost instantly.
- Professional Management – Directly investing in real estate requires knowledge and expertise. However, by owning shares in a REIT, all the investment decisions are handled by a team of experts, allowing shareholders to remain passive real estate owners.
- High Dividend Yield – Due to a large portion of net profits being redistributed as dividends, REITs are notorious for offering above-average dividend yields, leading to a high passive income.
What are the risks of REITs?
Despite offering a wide range of benefits, REITs are far from a risk-free investment. And there are some notable disadvantages when compared to a direct investment in real estate.
- Volatility – As shares are publicly traded, investors can quickly react to new information. However, that also opens the door to panic selling, which can introduce a lot of share price volatility despite the underlying real estate assets remaining stable.
- Fees – The management team of a REIT charges a fee for their service, which eats into profits, reducing the funds available for shareholder dividends.
Understanding REIT fees
Real estate investment trusts charge a management fee to pay for the salaries, expertise, and resources needed to manage the underlying asset portfolio. The combined cost of all these expenses culminates into the Total Expense ratio, which typically sits between 1% and 2% per year.
When first investing in REIT shares, there are no direct fees to pay beyond the usual broker commissions and charges. And even while holding shares in a REIT, management fees aren’t charged to shareholders but rather are built in as part of operating expenses. As such, the dividend yield of a REIT is an after-fee figure and does not need to be adjusted.
Top REITs to buy
Here are three REITs that can be bought on the London Stock Exchange today.
| Small-cap company | HQ | Description |
| Ediston Property Investment Company (LSE: EPIC) | Edinburgh | Generates the majority of profits from retail parks |
| The PRS REIT (LSE: PRSR) | Manchester | Invests in the residential rentals sector |
| Assura (LSE: AGR) | Warrington | Develops and acquires primary healthcare facilities |
Ediston Property Investment Company
Ediston Property Investment Company’s focus is firmly on the retail park sector. It has exited the office sector — and is in the process of withdrawing from leisure properties — with a view to moving towards full investment in just shopping parks.
Ediston has identified this property segment as the best for asset value and rental income growth. Retail parks are popular shopping destinations because they are usually easy to reach and offer an abundance of parking. There has also been an evolution of the types of stores these sites offer. It’s no longer just about supermarkets and DIY stores, which in turn offers a more diverse and appealing shopping experience.
The growth outlook for shopping parks has received a boost following the pandemic, too. Retail warehouses are larger and less cramped than traditional places like high streets. This gives them an advantage as shopper habits and preferences change.
Furthermore, these large retail units are also benefitting from the e-commerce revolution and, more specifically, the growing adoption of ‘click and collect.’ This is thanks to their larger storage areas and ease of reach by car.
Ediston has more than a dozen retail warehouses across the UK. Its tenant base is diverse, and its major tenants include B&Q, B&M European Value Retail, and Boots.
The PRS REIT
The PRS REIT — whose name is partly an acronym of ‘private rented sector’ — aims to capitalise on soaring demand for privately rented family homes in the UK. As of mid-2022, the business had built 4,786 properties, up from 3,984 a year earlier.
The PRS REIT concentrates on building homes in major towns and cities where rental demand is particularly strong. It has a long-term target to build 5,700 homes, up around 20% from mid-2022 levels.
The REIT is popular with UK investors seeking to capitalise on rocketing residential rents. According to estate agent Hamptons, Brits will pay a total of £63bn in rent for the full year, a record high.
This fresh surge comes despite the economic slowdown in Britain. And it illustrates the defensive characteristics of The PRS REIT. The amount people as a whole spend on accommodation isn’t very sensitive to broader economic conditions. This is why the company collected an impressive 99%+ of rent between January and June, and occupancy levels stood at a healthy 98%.
There aren’t nearly enough rental properties in the UK, which is why rent is exploding. This reflects an exodus of buy-to-let investors in recent years and weak housebuilding activity. According to trade body Propertymark, the number of available private rented sector homes tanked 49% in the three years to March 2022.
Assura
Assura develops, acquires, and operates primary healthcare facilities in the UK. As of the middle of 2022, it had 662 properties like GP surgeries, dentist clinics, and diagnostic and treatment hubs. In total, around 6.8m Brits use Assura’s facilities.
Chronic underinvestment in recent decades has created a swathe of ancient facilities that are no longer fit for purpose. Assura aims to solve the problem by building healthcare properties suitable for a modern NHS.
Demand for new primary healthcare centres is set to grow in line with an increasingly elderly population. The Office for National Statistics, for example, thinks that the number of citizens aged 75 years and above will soar by 4.1m between 2019 and 2039 to 9.9m. With this demographic change, demand for medical services will inevitably increase.
Because Assura operates in a non-cyclical sector, rental income here is stable regardless of broader economic conditions. What’s more, the rent it receives from GPs is backed by the NHS. When combined, these factors give the REIT excellent profit visibility.
Are REITs right for you?
REITS in the UK can offer investors the opportunity to receive large and regular dividend payments. They can offer long-term capital appreciation, too, as the value of their properties increases over time.
That said, the steady rate at which asset valuations usually rise over a long time horizon means that REITS don’t tend to generate robust earnings growth like many other UK shares can.
REIT investing is a way for investors to invest in property without having to endure the hassle of buying or managing the assets. They also allow an individual the chance to avoid large transaction costs like stamp duty or real estate broker/estate agency fees. So, for investors who are just starting out, REITs can be an effective way to gain exposure to the property market.