Should You Buy REIT Stocks or Not?

Are REIT stocks suitable for you? Here’s what you to look for when you explore real estate investing in REITs.

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Pixelated acronym REIT made from cubes, mosaic pattern

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Some investors think it’s a waste of time buying real estate investment trusts (REITs), because they don’t see them appreciating in price, but individual properties do. Most commonly, people compare REITs to buying residential properties (whether it’d be for rental purposes or not). After all, you don’t commonly see individual investors buying malls or office towers, for instance.

Unfortunately, price appreciation in residential properties isn’t guaranteed. Prices of assets depend on supply and demand. If you’re in hot markets like Toronto and Vancouver, then it’s likely the real estate asset values are going to rise in the long run, even though they’re high right now, because demand continues to increase.

How to guarantee price gains in your REIT stocks

You can guarantee price appreciation in your REITs by ensuring you’re buying at a big margin of safety. The most recent example is the pandemic market crash. During economic lockdowns, SmartCentres REIT (TSX:SRU.UN), a quality retail REIT, fell to as low as $13 per unit!

Moreover, it miraculously maintained its monthly cash distribution throughout the whole ordeal. This means investors could have locked in a yield of 14.2%! Of course, one couldn’t have known that the REIT would keep its cash distribution safe, which can only be known in hindsight. That is a risk buyers needed to take. Since then, the stock has appreciated 130% to just under $30 per unit. The REIT’s current yield of about 6.2% is where it normally is.

At $13 per unit, SmartCentres REIT was trading at only 5.7 times its normal valuation, whereas it normally trades at a price-to-funds-from-operations ratio (P/FFO) of about 13.9. It is trading at close to that level now. So, there’s no guarantee of price gains in the stock if one assumes that retail REITs have little growth in today’s environment.

Other than buying REIT stocks on the cheap, another way you can guarantee price appreciation in a REIT stock is to look for industries with growth. That could potentially be industrial, data centre, telecom tower, or healthcare REITs. You can research the following REITs and add the ones you like to your radar: Granite REIT, Summit Industrial Income REIT, Equinix, American Tower, and NorthWest Healthcare Properties REIT. The hard part is being patient in waiting for an opportunity to buy them at a substantial margin of safety.

So, who should buy REIT stocks?

You should buy REIT stocks if you’re looking for diversification for your real estate investing. For instance, REIT stocks can complement your residential property if you selectively invest in industrial and healthcare REITs.

It also makes good sense to buy REITs to earn passive rental income from real estate. By buying REIT stocks, you can be a passive landlord, sit back, and collect income.

Through REIT stocks, any investor can invest in real estate areas they can’t normally invest in — like in industrial, data centre, telecom tower, or healthcare REITs. Investors should view REITs as a part of their diversified investment portfolios. After all, real estate is the official 11th sector — the other sectors being information technology, health care, financials, consumer discretionary, communication services, industrials, consumer staples, energy, utilities, and materials.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

The Motley Fool owns shares of and recommends American Tower and Equinix. The Motley Fool recommends GRANITE REAL ESTATE INVESTMENT TRUST, NORTHWEST HEALTHCARE PPTYS REIT UNITS, SUMMIT INDUSTRIAL INCOME REIT, and Smart REIT. Fool contributor Kay Ng has no position in any of the stocks mentioned.

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