When most people think of investing, they probably think of the stock market. But there are many other alternatives to stock in your favorite company—or a new entry on the market that’s just launched an IPO.
The past two years have seen a tumultuous market that resembles a roller coaster ride. But those peaks and valleys don’t mean savvy investors haven’t had their money working for them. And if you’re just entering the market, or have been around a while, maybe it’s time to look at your portfolio and see where you can diversify. Because you don’t have to restrict yourself to just stocks and bonds.
When Should You Invest?
You accumulate wealth by investing, since your money makes more money over time when you invest. And there’s an adage that says, “It’s time in the market, not timing the market.”
Low-cost, diversified index funds broaden investments over hundreds of companies. It’s a good approach for people who lack the time or interest in researching individual funds. Over time, this strategy also often generates higher returns than other investment strategies.
Small cap stocks—from companies with a market capitalization below $2 billion—offer a good option for investing in a company likely ready for long-term growth and fast gains. Blue chip stocks (Amazon, Apple, Johnson & Johnson, Disney) are shares of big companies that are household names. They’re safe, reliable workhorses and able to withstand economic downturns.
But now, let’s talk about something else: investing in real estate and/or REITs.
What’s a REIT?
Real estate investment trusts (REITs) allow people to purchase shares of a real estate portfolio holding properties nationwide. Publicly traded, REITs have the potential to generate high dividends and long-term gains.
Required to meet certain IRS standards, REITs give individual investors the opportunity to own equity stakes in everything from malls and hotels to warehouses and self-storage facilities, or even apartments. REITs supporting the digital economy—infrastructure REITs owning cell towers, data center REITs, and industrial REITs supporting logistics—usually perform strongly.
To comply with government regulations—and avoid paying tax at the corporate level—REITs must:
- Return a minimum of 90% of taxable income via shareholder dividends annually
- Invest at least 75% of total assets in real estate or cash
- Receive at least 75% of gross income from real estate (like rents, mortgage interest, and sales)
- Have a minimum of 100 shareholders after one year
- Have no more than 50% of shares held by five or fewer investors during the last half of a taxable year
REITs fall into several broad categories including those grouped by investment holdings or by trading status. They include equity REITs, mortgage REITs, hybrid REITs, publicly traded REITs, public non-traded REITs, and private REITs.
The generate high returns, too. For example the FTSE NAREIT All Equity REITs index found that from 1999 – 2019, REITs outperformed the Russell 1000 (a stock market index of large cap stocks) by 5.31%. REITs showed total annual returns of 11.6% versus Russell 1000’s 6.29%.
Pros and Cons of REITs
REITs offer a steady stream of income, with high dividend yields and the requirement that they pay 90% of their annual income as shareholder dividends. They can outperform equity indexes, and it’s much easier to buy and sell a publicly traded REIT than to deal with buying, managing, and selling commercial properties yourself. Typically less volatile than traditional stocks, they’re a safer bet than some other asset classes (but that doesn’t mean they’re immune to market volatility).
For example, the pandemic did affect REITs, but their value didn’t drop as sharply as some had predicted, and they’ve been making a gradual recovery since their sharp decline in April 2020. REITs outperformed broader markets in early 2020, with a total YTD return of 7.4% by February 2020. They had dropped 41.9% from their peak by late March 2020 (but so did the S&P 500 and the Russell 1000), but gradually began their rally, which continues today.
While publicly traded REITs are easier to buy and sell, non-traded and private REITs require you to hold them for years before you see any gains. They also carry a lot of debt; however, long-term contracts (like leases) help generate cash flow needed to pay debts and investors. REITs don’t pay taxes, but investors must declare dividends they receive—unless profits are held in a tax-advantaged account like an IRA. Another drawback? Initial investment costs can soar to $25,000 or more and be restricted to accredited investors only. Non-traded REITs also tend to carry higher fees than publicly traded REITs.
Some experts believe CRE offers a good option for inflation-hedge investments in 2022, especially with the Federal Reserve planning to increase interest rates. Q3 2021 CRE volume increased 19%, and the Fed reduced purchases $15 billion to $105 billion in Q4 2021, with a planned $15 billion reduction monthly until buying ends in June.
For investors worried about more inflation gains, some investment advisors recommend using CRE, predicting it will continue to do well in 2022 and outperform other investment options. The single-family rental market continues to grow, according to one recent report, with single-family rental starts totaling 40,000 in 2021 and SFRs offering a 6% to 8% cap rate. Other types of CRE investment properties include:
Tips for CRE Investors
If you’re going to purchase a commercial property, you’ll want to consider the potential challenges and do your due diligence. Verify your finances to ensure you’re secure, especially since some CRE investment types require a significant investment up front. Focus on one CRE category at a time—especially if you’re new to the CRE investment game.
Research and understand the market. What’s the growth like in the area you’re considering? Is industry or a different sector ramping up or moving away? Researching economic trends is worth the time you need to gather and analyze data like vacancy rates, average lease lengths, rental prices, and more.
Most people don’t start this journey alone—find a mentor or a professional whom you trust to walk you through or help with the CRE investing process, like a commercial real estate alliance such as CREA United. This organization uses a unique, organic approach to networking. Comprised of 77 successful firms representing all disciplines within CRE, you’ll benefit from the partners’ expertise and combined decades of experience in CRE.
From brokers and architects to CPAs and CFPs, to general contractors and interior designers, and security to energy professionals and more, the members of CREA specialize in all CRE sectors including: