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Jeff Fleming
Is a REIT a safe investment?
Question:
I recently hired a broker and he recommended a "center point" REIT. I need safe investments and he recommended "Centerpoint" and "Putnam." What do you think of these? Will they make any money for me?
Answer:
A safe investment has different connotations for different people. It's a relative term. Many might consider mutual funds "safe" when compared to options or futures, but "not safe" when compared to money market accounts or CDs. This week, we examine where real estate investment trusts (REITs) fall in the scheme of safety.
A lot of investors have become millionaires as a direct result of their real estate investments, like Donald Trump. But market value declines and liquidity issues have also caused a lot of investors to lose a lot, if not all, of their wealth. Investment companies have made it easier than ever to invest indirectly in real estate, with vehicles such as the Real Estate Investment Trusts (REIT).
What to Consider in a REIT
Generally speaking, the return of an investment in a REIT will be as profitable as the underlying real estate or mortgage loans held in the REIT. Although this analogy is not technically correct, you can think of a REIT as a mutual fund that invests directly in real estate, real estate mortgages, or both. By investing in a REIT, you could receive all of the benefits associated with real estate investments, yet you would not be saddled with the one primary disadvantage--the lack of liquidity. REITs are traded on the various exchanges, which means you are able to sell your interest in the REIT and recoup the current value of your investment.
Please notice that I chose my words carefully. I did not say that you could sell your REIT for your initial investment. The value of REITs go up and down depending upon a lot of factors including interest rates, the properties or mortgages invested in, and the effectiveness of the property managers, to name just a few. Investors in mortgage REITs benefit from the interest received on its underlying mortgages, while equity REIT investors receive rental income and gains or losses when the properties within the REIT are actually sold.
Diversify Your Portfolio
Unfortunately, the return on real estate investments over recent years has not been good, especially when compared to the stock market. Of course, this is no indication of future performance, but it certainly would make me think twice before investing in a REIT. If you already have some money properly diversified between funds and asset classes, then maybe a REIT would be a good addition to your portfolio. Otherwise, you should probably consider sticking with mutual funds.
Choosing a Mutual Fund
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