A real estate investment trust (REIT) is a special type of company that can be listed on the stock market. It’s a business that owns property and pays out the rental income as a dividend to investors like me. It has to comply with some strict rules (such as paying out a minimum of 90% of the property income to shareholders) in order to get the REIT status. Here’s why I think REITs could be a good idea for my portfolio this year.
Acting as a diversifier
The first reason I’m considering investing in a REIT is that it would help to diversify my portfolio. It provides me with a different type of investment alongside other dividend-paying stocks or property-related companies.
For example, consider two cases. The first case is if I own two dividend-paying stocks, both from the same sector. The second is if I own the same amount of stocks. But this time one is a REIT, with the other from a different sector. I’d prefer the second portfolio as it’s better diversified and should offer me a lower risk.
A REIT also acts as a diversifier even within the property sector. For example, I could invest in the property marketplace Rightmove, or homebuilder Taylor Wimpey. A REIT allows me to get exposure to actual bricks and mortar. In some ways, this is the purest form of investing in property via a listed stock. It strips out company-specific issues, such as tech problems with Rightmove or winning building projects with a homebuilder.
Income potential from REITs
The second reason I think REITs are attractive at the moment is due to their income payouts. Since the primary aim of such a trust is to distribute the rental income from the properties owned, it should always pay out a dividend. It’s still not guaranteed, but the status requirements of becoming a REIT means that it’s unlikely to stop paying income. I can find yields in excess of 4% with REIT’s including Assura and Primary Health Properties.
Given the low interest rates here in the UK, this dividend yield provides a welcome alternative for my spare cash. I don’t envisage interest rates offering me a real return (interest rate minus inflation) for the rest of the year. Therefore, these stocks look like a good option for me to consider.
A Covid-19 recovery play
Finally, I think that REITs make sense when trying to make a play on the economic recovery from the pandemic. Some offer specific exposure to areas like shopping centres (like UK Commercial Property Trust). The yield here really depends on the demand from retailers. If I think that people are going to be out spending, then more retailers will want to lease space. This helps to drive up rental levels, which should help the REIT to pay out more income.
Clearly, this point can also be flipped to a risk. A slower economic recovery in 2022 could mean that rental income for some of these operations actually falls. Another risk is that property prices could deflate this year, with some saying that we’re in a property bubble. These are both valid points that I need to think about before investing. But I still feel more positive than negative about buying in to the sector as a whole.
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Jon Smith has no position in any share mentioned. The Motley Fool UK has recommended Primary Health Properties and Rightmove. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.