You may have already read the basics in my previous post on asset classes. In this post, we are going to compare Real Estate vs REITs. Both of these are quite a good investment if you like them. Those who generally like property investments will like them both. As I always mention in my posts, everyone may not like them and are not suitable for all. Let’s compare and see the commonalities and differences.
Real Estate/Property Investing
Real estate/property investing is where you buy a property to rent out to tenants. These properties can be commercial or residential. You will be renting the place to different tenants for different durations. Renters will pay some amounts of deposits and rental fees along with utilities. There can be some extra payments paid by the tenants like the property tax if it’s residential. On the commercial property side, the property can be a shopping mall, office space or even a warehouse. Initial investment and the rental yield and other factors vary.
Property investments hold the risks associated with real estate. We have seen instances of property prices dropping 50% and more in the past. Properties can be an asset that’s inflated very fast. Thus, there is a lot of learning and experience required to be a good property investor. Below are some points to consider when evaluating real estate investing.
There are 2 main ways you can get money from your property investment. By receiving rental money and the other is by selling it at a higher price. The first method will provide you with the cashflows monthly the second one will get you the capital appreciation. It will take some time for the property to appreciate. While the property appreciates, you may command a better rent.
Upfront Downpayments
Due to the cost of properties, if you are taking up a loan, the downpayment can be heavy. If you already have enough capital, downpayment may not be a big concern for you. most of the time, the down payments are ranging from 10 per cent and goes up to 50 or so depending on your bank. If you have a very good relationship with the bank, this downpayment can be a lot lesser.
UpKeeping of Property
When you own the property and rent it out, you will have to take care of the maintenance as well. This includes the facilities and other wear and tear that require periodic servicing. Sometimes the faults need to fix by the tenants, some payments have to be paid by the landlord. The landlord also has the responsibility to pass the premises in a good condition for the tenant to use.
While there are agencies who can perform the upkeeping for you. Engaging other professional services can cost a lot. These amounts will cut a lot from your rental yield.
Finding Tenants And Negotiating
Once you have purchased and done up the place, ready for the tenant to arrive, you need to find one. These tenants are the ones that going to give you the rentals. Finding the suitable one can be troublesome, it takes a lot of your time to advertise, price the place, etc… There are so many platforms nowadays to help you with. There are agencies and other companies that do this job for you too. Same as upkeeping the property, this service is to be managed, It will take a cut from your rental yield.
If the other side doesn’t agree to your listed price, you will have to do some negotiating to agree on the rental. These activities can be a lot of energy/time consuming depending on both parties.
Varying Interest Rate
If you are getting a loan from the bank, varying interest rates can be a difficult situation for you. Except when the interest rate goes down. This applies when you have signed for a varying interest rate loan. There are options to lock down the interest rates for a few years so that you need not worry. If you signed up for the varying interest rate and it goes up, more money from the rental will go to the repayment. This means your take-home amount from the rent can be very little. But, when you are paying the tax on the rental income, it doesn’t count also. Meaning you will have to pay the tax on the rent amount and not based on how much you keep.
Other Fees
Loan payment and interest are not the only payment you need to make when owning a property to rent. There are stamp duties, legal fees, Tax, Valuation fees and many more different fees. These vary’s from place to place and country to country. In Singapore, there is even an extra buyers stamp duty for properties owned by foreigners. If you have many properties under you, these fees may be charged to you at a higher rate. When you consider and plan to buy property to rent, you will have to take them into account too.
Risk Of Finding The Wrong Property
Properties get their values depending on many factors like the location, amenities, conditions. There are many other factors too. Sometimes you get blindfolded by the salesperson and do not do much research to find the true value. If you buy into a place where there are few renters, you will have a hard time getting the renters. It will also affect how much you can price the rental.
Liquidity
Liquidity is one of the key reasons why I’m not very keen to go into property investment. While properties can appreciate over time, they can not be liquidated so fast. It requires a lot longer time and you cannot dispose of it quickly to raise cash. If liquidity is a concern for you, you might want to reconsider your property investments.
By the way, the property is not meant to exchange hands very fast and there are cool off measures by the governments. This is to prevent the sector from being so inflated and forming property bubbles again.
REITs
REITs are the short form to Real Estate Investment Trust. A REIT will have one or many properties in their portfolio and it raises money from investors. It includes retail investors as well as corporate clients, anyone with money. This REIT manager will hunt for properties that can generate rentals. Also long term capital appreciation. The manager will do all the work for you, Raising funds, Loans, Maintenance and everything else. REIT’s are also listed in the stock market. You can buy the shares like how you would, for a normal stock. You will receive a part of the rental amount collected, as a dividend.
In some countries, REITs should distribute 95% of the taxable income to shareholders. This will make it even more attractive. REIT’s are sometimes focused on a sector. An example can be commercial office REITs, Retail shopping mall REITs, Data centres. There are many other categories, you get the idea right?. Even within the sector, they hold many properties across different tenants for diversification. This will ensure that there are rent generated that can pay the Interest payments, maintenance etc… You can even buy an index of REITs
Start With Low Investment Amounts
This is one of the factors that makes the REIT investment so attractive. You can start with smaller sums of investments. As REITs trade like stocks, it trades in lot sizes. Depending on the market where your REIT is listed, it follows the lot rule. In Singapore and Hongkong, the standard lot is 100 shares. Thus, if you want to buy a Singapore listed REIT, you will have to buy 100 shares of it as a least.
This is also the beauty of it. 100 Shares of a REIT can be purchased with a smaller amount compared to property investment. The dividend received from a decent number of shares can buy another lot of it and the compound. You will not be able to buy another property with the rental yield received, without taking loans.
Managed Servicing
As the REIT trust will take care of the heavy lifting, all the servicing will be taken care of by the trust. Finding the tenant, suitable property to hold in the portfolio etc… They will also ensure that the gearing ratio does not go beyond the threshold. When signing up leases, they will try to secure a tenure that is years ahead and diversify properties.
Any maintenance to the properties and facilities are taken care of by the REITs trust. All the repayment of the debt and re-structuring of loans will happen in the background too.
Access To Investment Information
As an investor, you will have access to all the investment information on the website of the company. REITs have to publish the holdings and the debt servicing details and income received. These details can be found in the quarterly and yearly reports. From time to time companies will publish the investor presentation on their website. When the dividend declares, the investor will be informed through the brokerage app as well.
These reports are enough to provide you with information like the average lease. Other information found are the properties in the portfolio, occupancy rate and so on.
Liquidity
Since you own only a piece of the total trust and your shares trade in exchange, you can buy and sell anytime. So long as the market is open and there is enough volume of trade. This makes REITs liquid. Liquidity is s key attribute some investors want when they get into a new investment. You don’t need to wait for years to sell the quantity you hold. You can do it as soon as you buy and you can even day trade them if you are into that.
Is REITs Better Than Property?
Answers to this question are subjective. There is no rights or wrongs and it depends on you as an investor. I’m the kind of person who likes REITs more than direct property investment. Property to me is a place where I live and I don’t wish to own rental properties at the moment. The property market is beyond my current circle of competence and I will stay far from it for now.
To some, REITs are better than property investment and many others prefer to own the property. Property is a physical asset that can touch and feel, whereas REITs are pieces of ownership baked into a share. This can neither felt nor touched.
Can you lose money in REITS?
Of course yes! You can lose money in any investment as all investments carry risk. If you are into REITs, your job is to find the best REITs that fits your investment philosophy. There are REITs with different rental yields. You can choose the one you like and here’s a link to the financial ratios I covered before. This can be used as a reference when you are analysing different REITs.
My REIT Experience
I have invested in a Data Centre REIT, based in Singapore. Even though it’s based in Singapore, it has assets that are spread across countries. This way, it remains well-diversified. I bought the shares at the peak of the price action and it has dropped ever since. I have been buying more shares as the share price is declining. Who doesn’t like sales!?
I’m keeping an eye on the happenings in this REIT. Since I’m very confident in the need for cloud computing and an immense amount of data generated. These need to be hosted and data centres do the job. The need for it will rise in the future as technology evolves.
Conclusion
I have covered the important differences between property investing and REITs. Kindly read through to understand more about these and pick the best for yourself. If neither suits you, it’s always better to go into other asset classes that are more suitable to you. The important thing is to not lose money while trying to generate wealth.