Real estate investment trusts (REITs) are a type of investment vehicle which invests in real estate through property and mortgages, and similar to stocks, they can be traded on major exchanges. In the U.S., there are three major kinds of real estate investment trusts (REITs). Equity based REITs own and invest in properties, and are responsible for the value of their assets, and account for the majority of REITs. Mortgage REITs invest in and own property mortgages, and tend to either loan money to real estate owners for mortgages, or purchase mortgage-backed securities. Hybrid REITs are the third kind of REITs, and invest in both properties and mortgages.
REITs gained more access to the capital markets when real estate got its own major market index category in September. Due to the increased visibility, REIT ETFs received a large inflow of capital during the month, but faced high levels of capital outflows in October. The outflows could be largely attributed to higher governmental bond yields and the high likelihood of interest rate hikes. A stronger dollar has helped spur the likelihood of higher interest rates, and REIT’s are negatively impacted because 90% of their taxable income is paid as dividends, and tend to rely on debt to continue growing.
Two REIT sectors that have been the most negatively impacted this past year were those in the retail or healthcare space. REIT’s in the retail space face challenges in that retail businesses are facing decreasing in-store sales, and rising interest rates may make it difficult for loans to be re-financed. Healthcare REITs face more challenges if interest rates continue to rise, as their leases tend to be for longer terms than other leases in real estate, and property owners may not be able to raise the rental rates fast enough to counterbalance the rising rates. NAREIT’s average dividend yield (4.47 %) is still higher than the yield on 10- year treasury bonds (2.53 %), and it is thought that the interest rates would signal an improved economy leading to a higher yield in REITs.