Mark Twain once said, “Buy land; they’re not making it anymore”.
In India, there is high demand for real estate in prime locations. And if history is anything to go by, Investing in REITs (Real Estate Investment trusts) has been the preferred mode of investment for Indians for several decades.
That said, buying real estate properties requires significant monetary outlays, which may not be possible for many prospective retail investors. Moreover, buying fixed properties also brings with it the hassles of ownership and maintenance. Under such circumstances, investors can gain real estate exposure by investing in REITs.
What are REITs?
The concept of REIT came into effect when US President Eisenhower signed the REIT Act title into law in 1960. This move gave US investors the power to invest in and profit from professionally managed largescale and diversified portfolios in the American real estate market.
Real estate investment trusts, popularly referred to as REITs in India, are stock market-listed investments that allow retail investors to invest in real estate minus the added pressure of having to buy or manage properties directly.
The underlying assets of investing in REITs are primarily real estate holdings. Investors pool in funds that a dedicated company licensed to sell REITs manages. Essentially, you are buying the units of the REIT, which either has ownership of the real estate holdings or oversees them.
The funds collected via these investments are utilized to either purchase, finance, or manage these holdings, which generate income through rental profits. Moreover, the capital appreciation of these real estate holdings also adds to the shareholders’ income.
Things to Look at Before Investing in REITs
There are both advantages and disadvantages of Investing in REITs. So before you decide to plunge in, look at these 7 key points.
1. Economic Outlook
Like the stock market, the current economic environment can influence how REITs play out for the investor in the long term. A strong economy is more conducive to REITs’ growth prospects.
Most REITs focus on the industrial, commercial, retail, hospitality, and healthcare sectors. It implies that you must understand the economic outlook of these individual sectors in question.
2. REIT and SPV Clientele
It is vital to go through the clientele of the REIT that you intend to invest in. Also, check the listed clients of the special purpose vehicle (SPV) in which the REIT proposes to hold or already holds an equity interest of at least 50%.
Businesses across sectors occupy REIT properties. However, the Securities and Exchange Board of India (SEBI) does not regulate rental payments from these rented or leased properties. It is the primary income-generating potential of Investing in REITs. So, it’s prudent to investigate before you purchase company shares.
3. Asset Portfolio Diversification
When investing in REITs in India, it is best to diversify your portfolio and not depend on a single sector to generate returns.
Investors can explore sectoral diversification in IT, FMCG, banking financial services, insurance, pharmaceuticals, and hospitality segments to protect their interests. In addition, geographical diversification will mean spreading out the portfolio with a mix of tier 1, 2, and 3 locations instead of owning real estate holdings in a single area.
4. Re-leasing Spread and Rolling Renewals
Check on the REIT’s ability to execute new leases with incremental rental for their properties in case there is a change in the rent per square foot between new and expiring leases. This process is called re-leasing.
Also, check the rolling renewals of your REIT partner, which tells you the number of occupiers who have renewed their agreements beyond the initial commitment period.
5. Yield and Frequency of Disbursement
Higher yields do not make a specific REIT more attractive minus stable distribution of pay-outs. Check the historical gains of your REIT, which can be indicative of the returns generated in the past. While it does bear relevance to the future performance of the REIT, it can help investors understand if the REIT has been consistent in their pay-outs to unit holders.
Moreover, you can look at the frequency of pay-outs and opt for a REIT partner that distributes dividends more frequently than its peers.
6. Interest Rate Environment
REITs may be influenced by a rise or fall in interest rates. A spike in interest rates makes REITs less attractive to prospective investors as a higher interest rate environment can lead to underperformance. Conversely, a low-interest rate scenario may present REITs with more favourable opportunities to refinance loans for expansion in the future.
7. Net Asset Value
Net Asset Value (NAV) can help you understand the valuation of REITs. It is a metric that measures the difference between their total assets and liabilities per unit basis. The NAV metric is helpful as investors can get an insight into the REIT’s portfolio per unit basis.
Takeaways
If you plan to foray into real estate investments to diversify your portfolio, then REITs can be an excellent asset class without being compelled to put in a lot of funds right from ‘get set go’.
Investing in REITs is subject to market volatility. However, investors are free to purchase any number of units with REITs, which makes them an affordable investment choice.
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