Why are rising rates bad for REITs?
Therefore, if rates begin to rise then REIT cash flows will decline at a time when discount rates are rising. They fear the end result will be capital losses that offset the higher distribution yield and result in negative total returns.
While higher rates negatively impacted nearly every sector of the economy in 2022 and most of 2023, real estate was hit especially hard. Rising interest rates hurt not only the value of REITs' property holdings but also the cost of debt to finance those properties or even refinance already-owned assets.
Rising interest rates since the start of 2023 have hurt REITs because the cost of capital rises. COVID-19 also has had a long-term impact on commercial real estate as more employees are working from home, driving down the occupancy of office buildings in cities.
Historically, REITs have provided inflation protection with their unique ability to increase revenue through rent repricing, as well as via inflation-linked growth of their portfolio values, since replacement cost value increases exhibit strong correlation with inflation.
Due to the strong negative correlation, rising interest rates in 2022 directly led to the negative performance of the real estate sector that year. While interest rates have mostly flattened out since October 2022, the higher rates have kept REIT stock prices down.
REITs allow investors to pool their money and purchase real estate properties. By law, a REIT must pay at least 90% of its income to its shareholders, providing investors with a passive income option that can be helpful during recessions.
Right now, REITs (VNQ) are at an inflection point and time is running out for investors. But now as we head into 2024, we expect the polar opposite and this should lead to an epic recovery across the REIT sector. The Fed expects at least 3 interest rate cuts in 2024 and the market is predicting even more.
The value of a REIT is based on the real estate market, so if interest rates increase and the demand for properties goes down as a result, it could lead to lower property values, negatively impacting the value of your investment.
Can You Lose Money on a REIT? As with any investment, there is always a risk of loss. Publicly traded REITs have the particular risk of losing value as interest rates rise, which typically sends investment capital into bonds.
But since REITs are invested in property, there's more protection against the horror show of having shares crash to $0. By law, 75% of a REITs asset must be invested in real estate. The market value of the property owned by the REIT offers a bit of protection, as long as the value of the property doesn't go to zero.
Are REITs safe during inflation?
He says: “Our analysis shows REITs perform very well historically in periods of high inflation. I could easily see global REIT returns in the low double-digits over the next 12 months – and if the economic situation turns out to be more positive it could be considerably more than that.”
Real estate usually performs well in inflationary climates; REITs are the most feasible way to invest. Adding global stocks or bonds to your portfolio also hedges your portfolio against domestic inflationary cycles. Another option is more exotic debt instruments like TIPS (inflation-adjusted Treasury bonds).
Several asset classes perform well in inflationary environments. Tangible assets, like real estate and commodities, have historically been seen as inflation hedges. Some specialized securities can maintain a portfolio's buying power, including certain sector stocks, inflation-indexed bonds, and securitized debt.
Risks of investing in REITs include higher dividend taxes, sensitivity to interest rates, and exposure to specific property trends.
With healthy property fundamentals and a favorable interest rate environment, REIT fund managers expect the sector to deliver double digit returns this year.
During the past 25 years, REITs have delivered an 11.4% annual return, crushing the S&P 500's 7.6% annualized total return in the same period. Image source: Getty Images. One reason for REITs' outperformance is their dividends.
He and Charlie Munger, vice-chairman of Berkshire Hathaway, actively dismissed it for many years. However, Buffett has recently invested in REITs as part of his passive income strategy. Berkshire Hathaway Inc.
Interest Rates. During periods of economic growth, REIT prices tend to rise along with interest rates. The reason is that a growing economy increases the value of REITs because the value of their underlying real estate assets increases.
Direct real estate investments may be more expensive upfront but give investors increased control and flexibility. Both real estate and REITs can help investors hedge inflation and market downturn risks. Both can also be a source of regular cash flow, though REITs are a much more passive investment than real estate.
Real estate stocks have been a bust so far in 2024. The rate-sensitive sector has underperformed the broader stock market this month as investors worry the Federal Reserve won't bring down the cost of borrowing as quickly as markets hope.
Why REITs will likely surge in 2024?
As we dive into 2024, the Fed's accommodative approach to tackling inflation is likely to provide an impetus to the REIT sector, which depends highly on the debt market to carry out business activities. These companies benefit from lower borrowing costs. Moreover, low interest rates contribute to higher valuations.
REITs. When interest rates are falling, dependable, regular income investments become harder to find. This benefits high-quality real estate investment trusts, or REITs. Strictly speaking, REITs are not fixed-income securities; their dividends are not predetermined but are based on income generated from real estate.
April 2, 2024, at 2:50 p.m. Real estate investment trusts, or REITs, are a great way to invest in the real estate sector while diversifying your options. Real estate investments can be an excellent way to earn returns, generate cash flow, hedge against inflation and diversify an investment portfolio.
Key Points. REITs have outperformed stocks on 20-to-50-year horizons. Most REITs are less volatile than the S&P 500, with some only half as volatile as the market at large.
The majority of REIT dividends are taxed as ordinary income up to the maximum rate of 37% (returning to 39.6% in 2026), plus a separate 3.8% surtax on investment income.
