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- Herausgeber: John Wiley & Sons
- Kategorie: Ratgeber
- Sprache: Englisch
- Veröffentlichungsjahr: 2023
Get the 411 on real estate investment trusts (REITs) and how they might fit into your portfolio Are you looking for exciting--but responsible--new investment opportunities that go beyond simple stocks and bonds? In REITs For Dummies, celebrated investing lecturer and author Brad Thomas delivers an easy-to-understand guide to getting started with real estate investment trusts--also known as "REITs." These flexible and lucrative investment tools package together individual properties so you can invest in land and buildings without the hassle of being a landlord. In the book, you'll get a straightforward tour of REIT property sectors and the different ways you can invest in REITs. You'll also find: * Strategies for selecting the best REITs for you and your family * Ways to navigate the sector and generate durable income that helps you sleep well at night * Options for those who want to go beyond the United States and investigate international REIT products. You already know about the basics of stock and bond investing. Now it's time to learn about some of the other interesting financial products available to the responsible investor. In REITs For Dummies, you'll get the jargon-free and easy-to-follow guidance you need to wrap your head around this exciting opportunity.
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REITs For Dummies®
To view this book's Cheat Sheet, simply go to www.dummies.com and search for “REITs For Dummies Cheat Sheet” in the Search box.
Table of Contents
Cover
Title Page
Copyright
Introduction
About This Book
Foolish Assumptions
Icons Used in This Book
Beyond This Book
Where to Go From Here
Part 1: Getting Started with REITs
Chapter 1: Who Wants to Be a Virtual Landlord?
Commercial Real Estate for the Masses
REITs Do the Work for You
Get Paid While You Sleep
Size Does Matter
Focusing on Fundamentals
REITs on the Street
A Slice for All Types
Chapter 2: It All Starts with Real Estate
Land: They’re Not Making It Anymore
Introducing Homer Hoyt and Real Estate Cycles
The Concept of Appreciation and Depreciation
Rental Income Is the Key to Value Creation
Chapter 3: Unlocking the First Level of the REIT Universe
How REITs Came to Be
REITs Were Made for You and Me
BDCs and MLPs: REITs’ Kissing Cousins
Chapter 4: Understanding How REITs Make Money
How REITs Raise Money
Equity REITs: The Brick-and-Mortar Landlords
Unlocking the Mystery Behind Preferreds
Welcome to the High-Yield mREIT Club
Every REIT Isn’t Traded on the Stock Market
Chapter 5: REITs around the Globe
The Long and Short of It
Oh, the Places You Can Go and the Money You Can Make
Keeping the “Real” in Global Real Estate
The Countries and Regions with REITs — So Far
It Ain’t Over ’til It’s Over … and It Ain’t Over Yet!
Part 2: Exploring the REIT Universe
Chapter 6: Exploring the Primary REIT Sectors
Understanding REIT Property Classifications
Industrial REITs: Warehouses and More
Apartment REITs: Living in a REIT Paradise
Office REITs: A Diminished Necessity
The More for Less Net-Lease Landlords
Retail: The Kingdom of Thing-dom
Chapter 7: Exploring Alternative REIT Sectors
REITs on the Cutting Edge: Technology REITs
Essential Healthcare Properties on Parade: Healthcare REITs
Storing Stuff and Lots of It: Self-Storage REITs
Checking Into Lodging REITs
Residential REITs: Building the Case for (Rental) Homes and Housing
In a Class by Themselves: Specialty REITs
Chapter 8: Putting on Your REIT Analyst Hat
Becoming a Virtual Rent Collector
REIT Earnings Metrics
Putting Weighted Average Cost of Capital on the Scale
The Cost of Buying In and Buying Up
Looking at REIT Balance Sheets
What a Strong REIT Balance Sheet Looks Like
The Case for Buying Bonds
Chapter 9: Separating the Wheat from the Chaff
Management Works for You
Internal versus External Management
What About Short Sellers?
Activist Investors on the Loose
Following the Money: Executive Compensation
Passing on the Crown
Part 3: REITs for All Investors
Chapter 10: Building a Smart REIT Portfolio from the Ground Up
What Type of REIT Investor Are You?
Looking at REIT Types
Building a Diversified REIT Portfolio
The Taxation Situation
Individual Retirement Accounts
Chapter 11: The Big Fish REIT Investors
Why Institutional Investors Love REITs
A Peek at the Top Institutional Players
Signs of the Times
Chapter 12: Pressing the REIT Easy Button
Give Me an E … Give Me a T … Give Me an F! Give Me REIT ETFs!
Breaking Down REIT ETFs by Category
The ETF Game Is All About Scale
REIT Mutual Funds
REIT Closed-End Funds
Part 4: The Part of Tens
Chapter 13: More Than Ten FAQs About REITs
How Do REITs Perform in a Recession?
Why Are REITs Good Inflation Hedges?
Why Invest in REITs Instead of the Next Big Thing?
How Many REITs Should I Own at a Time?
Does My House Count toward My Real Estate Holdings?
Should I Invest in REITs That Just Went Public?
What Is the Best Way to Get Rich Owning REITs?
When Should I Dollar-Cost Average?
Should I Own REITs That Pay Monthly?
What’s the Best Way to Get Started?
What Are Other REIT Resources to Consider?
What’s a SWAN Stock?
Chapter 14: Ten Mistakes to Avoid When Investing in REITs
Obsessing Over Just One REIT
Obsessing Over a Single Sector
Owning Nothing but REITs
Investing Too Heavily (Or at All) In mREITs
Trying to Time the Market
Buying Overvalued REITs
Falling for Value Traps
Falling for Sucker Yields
Considering REITs to Be Fixed-Income Investments
Forgetting That the CEO Works for You
Appendix A: Assessing Weighted Average Cost of Capital
A Textbook Example of Cost of Capital at Work
Don’t Be(lieve) a Sucker (Yield)
Appendix B: Determining Net Asset Value
Calculating NAV: A Four-Step Process
An Expert’s Take on NAV
Appendix C: Calculating Adjusted Funds from Operations
Glossary
A
B
C
D
E
F
G
H
I
J
K
L
M
N
O
P
R
S
T
U
V
W
Z
Index
About the Author
Connect with Dummies
End User License Agreement
List of Tables
Chapter 2
TABLE 2-1 Cycles in the Real Estate Industry, 1818–2008
TABLE 2-2 Lease Duration by Property Type
Chapter 3
TABLE 3-1 The GICS Sectors List
Chapter 4
TABLE 4-1 REIT Preferred versus Common Stock Comparison
TABLE 4-2 mREIT Risk Matrix
Chapter 5
TABLE 5-1 Countries and Regions with REITs*
Chapter 8
TABLE 8-1 Standard & Poor’s Credit Rating Hierarchy
Chapter 11
TABLE 11-1 Top 20 Institutional Owners of U.S. Equity (S&P Global)*
TABLE 11-2 Endowment’s Total Market Value in Fiscal Year 2022
Chapter 12
TABLE 12-1 PFFR’s Weight and Current Yield Breakdown by REIT Sector
TABLE 12-2 PFFA’s Weight and Current Yield Breakdown by REIT Sector
List of Illustrations
Chapter 2
FIGURE 2-1: Supply and demand have a direct relationship.
FIGURE 2-2: The four phases of the real estate market.
Chapter 3
FIGURE 3-1: REITs rise to the occasion when inflation acts up.
FIGURE 3-2: REIT returns versus stocks and bonds.
Chapter 4
FIGURE 4-1: U.S. equity REITs’ market capitalization.
FIGURE 4-2: Number of U.S. equity REITs.
FIGURE 4-3: Equity REIT versus mREIT total returns (1971–2021).
Chapter 5
FIGURE 5-1: Number of listed REITs (1990–2021).*
FIGURE 5-2: REITs outperformed international stocks and bonds.*
Chapter 6
FIGURE 6-1: U.S. REIT index sector weights by percentage.
FIGURE 6-2: Property types by economic sensitivity and lease duration.
FIGURE 6-3: Dividends paid by Realty Income (O), National Retail Properties (NN...
Chapter 8
FIGURE 8-1: Total REIT M&A activity in 2007, 2021, and 2022.
FIGURE 8-2: Typical REIT capital structure.
Chapter 10
FIGURE 10-1: A sample REIT portfolio with ten stocks.
FIGURE 10-2: REITs versus single-family home returns from 2000 through 2021 (Q1...
Chapter 11
FIGURE 11-1: Percentage of institutional investors who use REITs to boost growt...
FIGURE 11-2: Property diversification in private real estate holdings and REITs...
FIGURE 11-3: LaSalle Securities case study: Completion real estate strategy.
FIGURE 11-4: REITs expand ESG disclosures.
FIGURE 11-5: FTSE Nareit All Equity REITs Index annual returns (1972–2021).
Chapter 12
FIGURE 12-1: Specialty REIT ETF expense ratios.
Appendix A
FIGURE AA-1: Investment strategy: Utilizing low cost of capital advantage.
Guide
Cover
Table of Contents
Title Page
Copyright
Begin Reading
Appendix A: Assessing Weighted Average Cost of Capital
Appendix B: Determining Net Asset Value
Appendix C: Calculating Adjusted Funds from Operations
Glossary
Index
About the Author
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REITs For Dummies®
Published by: John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030-5774, www.wiley.com
Copyright © 2024 by John Wiley & Sons, Inc., Hoboken, New Jersey
Published simultaneously in Canada
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Introduction
It never occurred to me back in college that I should become a virtual landlord — which is what owning shares of real estate investment trusts, or REITs (pronounced “reets”), entails. It never occurred to me after graduation when I was working my first job, either. In fact, it didn’t occur to me for the first two decades of my professional experience.
It’s not that I had anything against being a landlord. Quite the opposite, actually. I wanted to become rich by owning real estate since I was about ten years old. Truly. And most of my adult life was spent developing commercial real estate —hands-on and from the ground up. I also studied many of the well-known Forbes-list billionaires with that goal in mind. This included Donald Bren (founder of Irvine Company), Stephen M. Ross (founder of Related Companies), Leonard Stern (founder of Hartz Mountain), and Sam Zell (founder of Equity Group Investments). That latter individual happened to be a REIT chairman — three times over! And all of them built their considerable fortunes on real estate. They directly owned and rented properties out, collecting that income and watching their bank accounts soar as a result.
That makes it sound easy-peasy, I know, so let me start out with a very firm clarification. I can attest from personal experience (in real estate construction and management, not in being a billionaire) that it takes a lot of blood, sweat, and tears to generate that kind of wealth. The individuals just mentioned took on considerable work and risk in order to achieve their success stories. There’s a reason why only 1.1 percent of people in the world are millionaires, much less anything higher.
With that said, there’s a way to generate significant wealth in real estate by becoming a virtual landlord. It might not make you a billionaire (unless you have a lot of money to start out with), but it also comes with almost no blood, sweat, or tears.
About This Book
That’s what REITs For Dummies is all about — helping you safely create generational wealth and sustainable cash flow by investing in companies that invest in commercial real estate. I’m extremely honored to write it since I know the positive impact it can have on millions of readers around the globe. My more than three decades of experience as a real estate developer, investor, and analyst provides me with a unique perspective about REITs that I’m more than happy to pass on to you.
Some of that experience was extremely rough — even traumatic. Back before I realized the power and long-term profit potential of REITs, I made a lot of mistakes. I built up a fortune that was ultimately unsustainable: a house of cards that the 2008 crisis toppled in an astonishingly short amount of time. I had to build myself back up from that; it was a journey I now recognize as an immense blessing in disguise. It taught me so many invaluable lessons that not only benefit my life but my readers’ and followers’ lives as well.
That’s why REITs For Dummies covers as much as it does, from how these assets got started to how they operate to how to analyze them to how to include them in your portfolio.
I don’t for one second or sentence advocate REITs as a perfect investment. You’ll see me repeat that caution over and over again throughout the following pages. For that matter, anyone who touts anything as a perfect investment is either grossly misinformed or trying to take your money without making you any in return. But REITs do offer benefits that other assets simply don’t and can’t. This means they can complement your larger investment portfolio in unique ways that promote both wealth creation and wealth preservation.
Foolish Assumptions
I have a very well-established REIT–analyzing presence through platforms such as Seeking Alpha (a site that allows individual experts to distribute their investment findings) and Wide Moat Research (a company that publishes both free and paid articles on dividend-paying opportunities). Through those, various investment conferences, and personal interactions, I’m used to discussing REITs with a wide range of people, from those who’ve never heard of them all the way to industry experts and insiders.
I understand that everyone comes to the table with varying amounts of information and finances to work with — not to mention different goals, personalities, and tolerance levels. With that said, I did write this book for a specific set of people. It’s a pretty broad set, mind you, but I’m still assuming that if you want to read REITs For Dummies
You know the basics of investing, such as what a dividend-payer is.
You’ve got enough money to invest without having to take a loan out, destroy your emergency fund, or sell a kidney on the black market.
You already have an investment portfolio of some kind, just one that doesn’t feature REITs or doesn’t feature enough of them.
Admittedly, that last assumption isn’t going to ruin this read for you if it doesn’t apply. I would just suggest that you perhaps start with something like Investing All-In-One For Dummies by Eric Tyson (Wiley). Then come back to this after you’re done.
Icons Used in This Book
Speaking of such, the For Dummies brand of books aren’t actually made for dummies. They’re made for intelligent people who recognize a lack of knowledge in some area they’d like some knowledge about. Moreover, they’re made for intelligent people on the go. (However, you can still easily benefit from them if you’re retired with nothing but sweet, sweet time on your hands.) That’s why each one includes a list of icons to help you digest the information at hand in a way that best benefits you and your schedule. This REITs addition to the For Dummies universe is no different. Here are the icons you’ll encounter and a brief description of each:
Whenever you see this symbol, it signifies some way to make your life easier. This might be with additional information or an insight into how to implement previous information as best as possible.
Let me be blunt: There is some information in this book that you don’t necessarily need to know, depending on exactly what you’re looking for (more about that in a minute). The sidebars — those shaded boxes — for example, can be considered extra-curricular reading or fun additional facts. However, when you see the Remember icon, it’s something you want to zero in on and commit to memory.
This one’s pretty obvious but let me explain it all the same. The Technical Stuff icon marks information of a highly technical nature that you can skip over if you don’t want to get into the weeds.
As I’ve already stated and will state again, there is no such thing as a perfect investment. But you can make REITs a lot closer to that ideal by avoiding dangers such as the ones highlighted by the Warning icon.
The appeal and importance of real estate doesn’t change, but the way we interact with that real estate certainly has over the millennia — an evolution that’s sped up immensely in recent decades. That’s why I make sure to highlight facts and figures that show the ever-increasing blend between property ownership and technology.
Beyond This Book
If you still want more after you’re done reading everything I’ve got here, don’t worry. I’ve got your back with a bit more information over at www.dummies.com, where I’ve added a few more pages of details you might want to know. Search for “REITs For Dummies Cheat Sheet” in your favorite search engine.
Where to Go From Here
Since you’ve made it this far, I’m guessing (another assumption, I know) that you’re ready to read further. In which case, have at it!
Naturally, I think everything in the following pages is worth reading. (It’s an amazing body of work and so well-written, didn’t you know?) But feel free to disagree. I imagine you have a better idea of what you’re looking for than I do. So if you saw chapter headings in the table of contents that zero in on your particular needs, jump right to them. There’s no standing on ceremony here.
Each chapter is largely meant to stand out by itself and for itself. This allows you to save some time and skip over sections you already know or that don’t pertain to you. However you choose to read the book, I hope you find both happy reading …
… and happy REITing!
Part 1
Getting Started with REITs
IN THIS PART …
Find out what REITs are, what they do, and how they raise money.
Explore the sheer size of the publicly traded U.S. REIT sector.
See why real estate is a dependable asset to have in your portfolio.
Understand the differences between REITs, business development companies (BDCs), and master limited partnerships (MLPs).
Get the scoop on the forgotten side of REITs: Private and public non-listed possibilities.
Look at the pros and cons and ins and outs of international investing.
Chapter 1
Who Wants to Be a Virtual Landlord?
IN THIS CHAPTER
Discovering what REITs are and what they do
Recognizing the sheer size of the publicly traded U.S. REIT sector
Checking out REITs on the street
Finding out why REITs are easy to love
Being a landlord can make you rich. That’s what you want to hear, I know. And fortunately, it’s true. Owning buildings and renting them out can be extremely rewarding as you collect income from the property you own. All the same, I wouldn’t call being a landlord an easy road to wealth.
There’s a lot involved in renting out property on a legal level and perhaps even more so on an ethical one. So many issues can (and do) come up, from structural considerations regarding the actual buildings and properties they sit on to weather-related hazards that can literally hit your holdings, to general nuisances and differences of opinion with tenants. For those who manage entire apartment buildings, those differences can present themselves on a daily basis.
But suppose you could bypass all that by being a virtual owner instead. Suppose you could be almost entirely oblivious of the day-to-day details of dealing with rentals and renters — yet still receive steady income from them every month or every quarter. Suppose you could go online, click a few buttons, and put a few hundred dollars down (or more, if you so choose) to become an almost instant virtual owner of commercial real estate.
Would you be interested? If so, this book about real estate investment trusts, or REITs, is for you.
Commercial Real Estate for the Masses
For centuries and even millennia, owning property was a wealthy person’s venture. In fact, land was one of the biggest signifiers of wealth, with kings and lords fighting wars over who was entitled to what. Peasants and even noblemen stayed on land at the will of their superiors. And while that arrangement wasn’t always the brutal, one-sided affair Hollywood likes to portray, it obviously was a far cry from an easy road toward wealth independence.
Even as global societies advanced and individuals started owning their own homes, commercial real estate and its benefits (potential pitfalls as well) remained firmly a resource for the rich. It wasn’t until the mid-20th century that REITs (pronounced “reets”) were introduced and we “little people” had a solid chance of benefiting from sizable property ownership, too. This game-changing category gives the average investor the same access to property-based money-making potential as the rich. I’d even go so far as to say that REITs exist to even out the playing field. (For more detail on when and where and how they were created, turn to Chapter 3.)
REITs are companies that own, manage, and/or finance real estate holdings. These holdings can be in the form of apartment buildings, hotels, shopping centers, self-storage facilities, warehouses, and even billboards, data centers, and woodlands. And that’s the short list — a list that keeps growing every decade. In Chapters 6 and 7, I go through each REIT sector in detail, discussing their pros and cons, because there are definite positives and negatives to know about.
As I continuously stress throughout this book, there is no such thing as a perfect investment. So the more you know about REITs — or any other asset you want to put money into — the better off you’ll be.
REITs Do the Work for You
You probably don’t have the finances, time, or desire to start your own real estate investment trust. Which is perfectly fine. Even reasonable. But if you’re reading this book, you probably do have the finances, time, and desire to buy into REITs that someone else started, developed, and continues to successfully run.
As I previously state, it takes very little money, comparatively speaking, to buy a few shares. And when it comes to publicly traded REITs — the ones you see listed on the stock market — it takes just a call to your broker or a series of clicks on your keyboard to get the deal done. That’s all you need to become a landlord.
And not just any landlord, but a no-muss, no-fuss one. Because, again, you’re a shareholder owner, not a hands-on owner. That means you don’t have to deal with collecting rent, fixing roof leaks, paying insurance, or evicting problematic tenants and finding better ones.
Take it from me. I have more than three decades of experience in building and brokering over $1 billion of income-producing real estate transactions. I’ve been a landlord to drugstores, auto parts stores, casual-dining restaurants, fast-food restaurants, tire centers, grocery stores, movie theaters, bookstores, discount stores, warehouses, billboards, cell towers, office buildings, and fitness centers. So trust me when I say there’s a lot involved.
Regular landlords have to deal with things like high leverage, partnership disputes, recessions, tenant bankruptcies, and even tornadoes. (My neck of the woods in South Carolina isn’t part of Tornado Alley by most definitions, but we still get these forces of nature more often than I’d like.) In Chapter 3, I explain the three Ts most landlords wish they didn’t have to deal with: toilets, trash, and taxes. By this, I mean all the parts and pieces they’re responsible for — the physical structures complete with pipes, electrical wiring, windows, and doors — as well as services and those pesky obligations to Uncle Sam.
This all adds up, taking significant chunks out of the money landlords make.
Of course in a capitalistic society, they’re not supposed to add up more than your profits. If you do it right (with perhaps a little bit of luck added in), you can make a really decent living. There are specific advantages to owning direct real estate, such as depreciation and lower volatility, as I explain in Chapter 2. But doing it right entails a lot of time, effort, and financing.
There’s also the fact that even if you were making a seven-figure salary, it would still be difficult to personally buy up such properties as
Caesars Palace in Las Vegas
The Empire State Building in New York City
The Hilton Waikoloa in Hawaii
The same goes for 195,000 acres of farmland, 226,000 cellphone towers, or over 12,000 free-standing properties worldwide — each set with a single purchase. And that’s to say nothing about strings of properties in more than 40 countries and regions around the globe.
Yet REITs allow you to do exactly that. You don’t get to own the entirety of those portfolios, of course. You’re just one of hundreds, thousands, or even tens of thousands of other investors. But as I note in Chapter 3, fractional ownership still matters. Plus, you still get a piece of the rental profits, not just through share price appreciation but also through dividend payments multiple times per year.
This is because REITs, by law, have to pay out at least 90 percent of their taxable income to their shareholders in the form of dividends. As Chapter 3 details, this allows them to avoid taxes themselves. Shareholders still have to pay taxes on any gains you make, mind you. But they get higher dividends as a result of this corporate-level deal.
Get Paid While You Sleep
One of the reasons I decided to get into the real estate rental industry (so many moons ago) was because someone told me the best way to make money is while you’re sleeping. It sounded like good advice, and I took it to heart along the way.
Being a landlord certainly helped me generate significant wealth by leveraging the most powerful tools of appreciation and compounding, as I discuss in Chapter 2. What I didn’t know at the time though was that REITs provide all those benefits, plus the benefit of liquidity, along with transparency and diversification.
This is what makes so many REITs sleep well at night, or SWAN, investments. While I didn’t coin the term, I use it to describe a high-quality stock that pays out dividends while you’re sleeping … like so many of the REITs I explore in this book.
Size Does Matter
Here’s another factor to appreciate about these commercial real estate assets: their sheer size. This is a big deal for a number of reasons. For one thing, the publicly traded U.S. REIT sectors magnitude makes it liquid, allowing investors to trade in and out largely at will. Another point to consider is how the wide, wide world of real estate investment trusts provides investors with considerable diversification benefits.
For instance, tech-centered investors who want something more affordable and less volatile than Facebook can look to Digital Realty, a massive (and growing) network of data centers around the world. Or if you think that brick-and-mortar retail isn’t going away, you can consider my favorite REIT, Realty Income. This means that you (the investor) can design and build your portfolio based on your individual tastes and preferences. In Chapter 10, I provide a blueprint to consider strategies I’ve used over the years.
There are also basic REIT categories to consider above and beyond which properties they tend to buy, which means the larger asset class provides even more opportunity to diversify. I break them all down in Chapter 4 if you want to see what I mean.
Basically, commercial real estate in general and REITs in particular are enormous investment categories that offer something for just about every investor, no matter what their interests and goals are.
Focusing on Fundamentals
I’m sure you’re familiar with the board game Monopoly, where you use play money to buy real estate, utilities, and railways. The goal is to dominate the board and have scale advantage — the point where a company has a big enough presence that it gets better banking and business deals than the competition. The issue is how to go about it. Which properties should be picked up and which ones should be passed over?
The same questions apply to income-producing real estate in the real world. When you invest in it by buying up REIT shares, you’re buying (portions of) portfolios in high-quality, well-placed real estate operated by professional, ethical management teams. That’s the ideal, anyway, and the ideal is very often true. But it’s not a guarantee, so you do have to research and analyze what you find.
At least you really, really should.
If that sounds daunting, don’t worry! That’s what Chapter 8 is there for — my favorite chapter in this book. It’s where I show you how to choose your REITs wisely by understanding how to calculate property values and earnings metrics, as well as balance sheet basics. The key to unlocking their value is rooted in their cost of capital: how much money they’re spending in order to make money.
You need to know that REITs thrive when their return on invested capital (ROIC) is greater than their opportunity cost of capital. If the former is at or below the latter, growth may not create value and can lead to a value trap or sucker yield scenario. More about those in my favorite chapter.
I also use Chapter 8 to fill you in on REIT–specific financial terms such as funds from operations (FFO) and net asset value (NAV). These can help you understand the margin of safety concept further as you start analyzing potential portfolio picks for yourself. In which case, always keep in mind that the subjects of risk and cost of capital are essential and inseparable. So while you’re free to read this book in whatever order you’d like, picking and choosing topics as you see fit, I recommend that you not skip over Chapter 8. It’s got way too much important information in it.
REITs on the Street
If you’ve read this far, feel free to stop for a little bit. I’ve got some homework for you.
Get out of the house. Go for a drive. See what you can see. Or, if you’re perfectly content reading on right away, at least think about your daily commute to work, the grocery store, church, the gym, or wherever else you tend to go. No matter where you’re headed locally (in the United States, at least), there’s a good chance you’ll find yourself in close proximity to a REIT–owned property. That workplace, grocery store, church (yup, even some churches), or gym you frequent might even fall under that category.
As I reference in Chapter 4, REITs own approximately one out of every ten institutional-quality buildings in the United States. And that percentage continues to grow with investor demand.
A Slice for All Types
While REITs were designed for the average investor, I explain in Chapter 11 that institutions, such as pensions and endowments, buy them up too. These are the big fish. The whales. And boy, but do they like to eat up shares of whatever they fix their appetite on, including REITs.
Don’t be hating on these big-time players, though. They’re not stealing from your pool of potential. If anything, they’re helping your investments grow both in recognition and price. This category of investors is important to the growth of the sector in ways that I’m more than happy to lay out.
There are now 29 REITs included in the S&P 500 (as of May 2023). That could not have occurred without enormous firms like Vanguard, Cohen & Steers, Green Street, BlackRock, and State Street getting involved. For decades, that wasn’t the case, which was to REITs’ detriment. Institutional investors chose to allocate funds elsewhere, deeming REITs to be too new and risky. And I’m not saying they were wrong in displaying caution.
But REITs evolved into something worth putting big money into. I detail their historical progression in Chapter 3, including how 150 million Americans now live in households that invest in REITs through their 401(k)s, IRAs, pension plans, and other investment funds. You can also own REITs through vehicles such as exchange-traded funds (ETFs), mutual funds, and closed-end funds. These can be extremely powerful options to consider, which is why Chapter 12 gives you facts, figures, and important insights into what they are and how you can use them.
I personally prefer to buy up individual stocks instead of baskets of them. But I very well understand that everyone is different. Some of us prefer to play it as safely as possible. Some of us can afford to take greater (though not unreasonable) risks. And some of us choose a middle path between the two.
Whichever category you fall into, this book seeks to give you the kind of guidance you need to make it work for you.
Chapter 2
It All Starts with Real Estate
IN THIS CHAPTER
Exploring an incredible asset class that stands the test of time
Understanding the ups and downs of real estate
Collecting rent checks while you sleep well at night
Real estate is the oldest asset class in the world, and one that’s just as relevant today as it ever has been. Profitable too. According to Savills World Research, all the property in the world is worth an estimated $228 trillion. No other asset class comes even close to matching real estate in this regard, much less beating it:
U.S. banks — $19.6 trillion
Gold — $9.3 trillion
Oil — $1.7 trillion
Why? What’s so great about it? The answer is surprisingly simple. It’s captured in the definition of real estate: “The land and any permanent structures, like a home, or improvements attached to the land, whether natural or man-made.” That makes real estate a commodity that can accommodate shelter, commerce, food production, collaboration, and so much more. In fact, as I show throughout this book, real estate is necessary for doing just about anything on Earth.
As such, it’s easy to break this massive asset class into several categories and subcategories. The largest of these, however, is residential property: houses that are used as homes. It’s valued at around $169 trillion. Commercial real estate (property used to make money, such as office buildings, shopping centers, and apartment buildings), meanwhile, comes in at around $35 trillion.
The point is that real estate is the glue that holds the worldwide economy together. In this chapter, I explain why real estate is a dependable asset to have in your portfolio. Its growth over time is steady and remarkable. I also introduce you to some fundamental real estate concepts.
Land: They’re Not Making It Anymore
Whether you believe it was Will Rogers (1879–1935) or Mark Twain (1835–1910) who said it, this statement is absolutely true: “Land: They’re not making it anymore.”
Because the world has all the land it will ever have, experts can put a value on it and use that number to measure other assets against it. In the following sections, I explain how supply and demand drives the value of real estate, look at the relationship between real estate and the gross domestic product (GDP) of countries around the world, and remind you that we’d be nowhere without real estate.
Supply and demand
As I point out in the chapter introduction, there’s $228 trillion worth of real estate in the world. And that valuation will almost certainly climb further considering how it’s such a finite asset class. It’s a matter of supply and demand.
Supply and demand depend completely on the relationship between buyers and sellers. The former has to have something the seller wants, and the seller has to be willing to pay the price the buyer wants. Otherwise, it just doesn’t work.
When demand for a service or product is high, sellers have more control in setting the prices. A particular population wants it, and so a particular population will get it. That’s what demand is: desire and the ability to act on that desire combined.
And when that desire and ability comes up against low supply — a limited amount of said service or product — sellers can really amp up the price. The wealthy win out in those cases, as do those willing to buy on credit, while the poorer and more prudent do without. Either way, the seller tends to win.
When demand is low, that’s when discounts enter the picture, as any retailer in a recession knows full well—or as any office landlord in this pandemic-inspired work-from-home paradigm knows full well. And, obviously, low demand and high supply is a bad thing. That means there’s a lot of inventory to push at the lowest prices possible.
It’s easy to see then that supply and demand are directly correlated. They work against each other until the product, service, or property in question reaches an equilibrium: the best estimate of what it’s really worth in that moment. Figure 2-1 illustrates this principle.
FIGURE 2-1: Supply and demand have a direct relationship.
Let’s apply this to real estate. When demand for housing and commercial properties is high in a particular neighborhood or market, prices rise. We all saw this happen in the real estate market of 2020–2022, where the numbers of homebuyers skyrocketed. That prompted them to bid up home prices almost everywhere, which in turn, raised prices across the larger economy.
However, consider what happened after 2008 when the housing bubble burst and the Great Recession set in. Just like that, demand dropped, leaving a large unwanted supply of houses. Prices fell in order to attract the remaining buyers, who all of a sudden could be much more selective than they were before.
Decline in demand for real estate can also happen when a bull market overdoes it in general. Basically, sellers begin taking buyers for granted until buyers put their foot down and say “enough is enough. It’s not worth the price. I’ll rent instead.” Again, this back-and-forth, push-and-shove, give-and-take dynamic always brings about a healthy balance. Eventually. And as it does, it keeps the real estate market ever changing.
Commercial real estate is just as susceptible to that kind of dynamic. When there’s a limited number of a particular kind of property in a particular place, prices can easily go up. This can then encourage builders to come in and boost supply.
DON’T FEAR RECESSIONS, EMBRACE THEM
One of the reasons I became a real estate analyst is because of the period known as the Great Recession. I was a real estate developer for over two decades. I made my living building shopping centers, warehouses, and free-standing buildings, and then leasing them back to credit-worthy customers.
I was making money hand over fist in that climate, right up until the housing market crashed in 2008. The following downturn was called the great recession because of how far off kilter property prices had gotten — and how very connected land is to everything in the economy.
The definition of a recession, according to the Oxford English Dictionary, is “a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters.” This interpretation became popular in 1974 after economist Julius Shiskin introduced the two consecutive quarters rule based on the fact that healthy economies expand over time. In which case, two quarters in a row of contracting output suggests there are serious underlying problems.
The National Bureau of Economic Research (NBER) then came up with a more flexible rule: “A significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.” And while most laypeople recognize Shiskin’s authority, the professional — and therefore, official — nod in the United States goes to NBER. That caused a lot of disagreement in 2022. But nobody disputes that the Great Recession was, indeed, a recession.
Downturns always affect real estate, whether through rental prices, vacancy rates, property valuations, or all three. Certain features are common to nearly all economic downturns, including overbuilding and a relaxation of risk standards by builders, lenders, and investors. I get more into the hows, whats, and whys of that both further into this chapter and in chapters to come.
For now though, I think we can agree that recessions don’t come out of nowhere. The so-called “great” one, for instance, was sparked by a whole range of issues, including what I refer to as a severe lack of banking integrity — or intelligence — which led to a housing market that was less than perfect. Many financial institutions suffered as a result, including ones that had profited handsomely while the bubble grew.
Plenty of smaller businesses, entrepreneurs, and mom-and-pop investors suffered, too, me included. I lost my whole business and almost my entire net worth. But I built myself back from there, stronger and smarter with REITs. As you find out in this book, volatility can lead to opportunity. You just have to know where to look.
One of my good friends was a commercial real estate appraiser in the 2000s. He was able to take advantage of the chaos in 2008–2009 to purchase millions of dollars’ worth of distressed real estate. As a result, his net worth soared. The key is to spot trends as early as possible and look for property sectors that are in danger of overheating: things like a steady rise in construction and sustained increases in property prices. Then get ready, or shall I say, get greedy.
To be a successful real estate investor, you must be able to recognize what’s hot and what’s not. Always remember that real estate is critical infrastructure to most every business, every household, and every intelligent investor. So there is always a profit to be had somewhere.
When you’re acting on those opportunities, keep leverage — borrowing — in mind. Most real estate investors use leverage, or debt — unlike the friend I mentioned earlier. For my part, I had to learn the hard way to avoid excessive debt.
Every business uses real estate
As I mention earlier in this chapter, real estate factors enormously in how an economy runs. Here are just some of real estate’s many sectors and subsectors:
Apartments
Campus housing
Casinos
Cell towers
Data centers
Free-standing buildings
Hospitals
Hotels
Industrial buildings (for example, warehouses)
Malls
Manufactured housing
Medical office buildings
Office buildings
Outlet centers
RV parks
Self-storage
Senior housing
Shopping centers
Single-family rentals
Skilled nursing
Vacation rentals
Up until 1960, it was almost impossible for the average person to invest in this type of institutionally-owned property. However, as you find out in Chapter 3, real estate investment trusts, or REITs, were formed to provide access to all these categories.
Introducing Homer Hoyt and Real Estate Cycles
Homer Hoyt (1895–1984) was a land economist who researched the business cycles of real estate. His findings have influenced the study ever since. Hoyt got the idea to research this topic back when he was working as an appraiser and consultant in the 1930s. He specifically targeted neighborhoods in Chicago, Illinois, studying how their market values had ebbed and flowed over the decades. What he found is crucial in understanding the world of real estate investment, including where REITs are concerned.
Recognizing the cycles most businesses go through
Most stocks follow the business cycles of boom to bust to boom to bust. This only makes sense. It also makes sense that there are stages between the two extremes, just as winter freezes don’t come right after summer heat waves. In the same way, economists usually recognize four distinct phases of a business cycle:
Expansion:
Demand is strong, giving producers and sellers every reason to increase their efforts. Consumers are willing and able to pay, and business is good.
Peak:
Everything is as good as it’s going to get — to the point that it’s extreme. Prices are too high, demand is too strong, and something has to — and will — give.
Contraction:
Demand begins and continues to fall and so do prices. Both businesses directly and indirectly involved cope by cutting costs where they can, including by laying employees off.
Trough:
Everything is as bad as it’s going to get. Prices are too low, demand is too weak, and something has to — and soon will — change. This might mean a rethinking of the original product or a new product being introduced altogether, depending on the industry and situation.
If that sounds simple, it is. To a degree. Sometimes it’s obvious when a new stage has been reached. Then again, both sellers and buyers are often so caught up in the moment that they fail to see what’s staring them right in the face. As the saying goes, they can’t see the forest for the trees.
To get a good (though not perfect) understanding of where prices are headed, investors can study general economic activity, income levels, employment, industrial production, retail sales, housing inventory, and the like. While business cycles can be brief — lasting mere months — or more than a decade long, the average length of larger GDP growth is less than five years.
Looking at the long cycles of real estate
Real estate cycles follow the same four stages as their regular business counterparts (detailed in the preceding section). However, real estate cycles are over three times longer than stock market cycles. This is mainly because of construction (development) considerations. Most buildings aren’t built in a day or even in a matter of months.
Typically, it takes three years for a real estate project to be completed, from picking out the site to collecting the first rent check. Homer Hoyt and his successors have offered solid professional proof of these phases. But I also know about these phases from personal experience, having been a real estate developer myself for over two decades. I completed over 100 projects in that time, ranging from free-standing stores leased to retailers like Advance Auto Parts and Sherwin-Williams, to mixed-use properties leased to companies like Walmart and PetSmart.
Whenever I built a new project, I would spend almost a year assembling the land, hiring civil engineers to design the site, employing architects to do the actual building, and preleasing the space. It would also take time to seek out financing and obtain zoning approvals (sometimes zoning takes months or even years). Hiring a contractor was particularly time consuming because I would always seek out multiple bids to make sure that I was getting the best price. Then, when construction commenced, there were always delays to deal with due to weather, change orders (amendments to construction contracts), and other considerations.
Some projects can take two years to complete. Others can take up to four depending on their complexity and level of difficulty involved with city planning departments. In contrast, other businesses can adjust their production schedules in a matter of weeks or months.
Keep all that in mind as you study Figure 2-2, which illustrates the four broad phases of the real estate cycle. These phases can be easily matched up with the four business cycle phases mentioned earlier.
These phases are essentially what Homer Hoyt discovered. His 18-year real estate business cycle shows that the brick-and-mortar asset class over the long term can have a high degree of predictability. Table 2-1 outlines the cycles for various aspects of the real estate industry between 1818 and 2008.
FIGURE 2-2: The four phases of the real estate market.
TABLE 2-1 Cycles in the Real Estate Industry, 1818–2008
Peaks in Land Value Cycle
Interval (Years)
Peaks in Construction Cycle
Interval (Years)
Peaks in Business Cycle
Interval (Years)
1818
—
—
—
1819
—
1836
18
1836
—
1837
18
1854
18
1856
20
1857
20
1872
18
1871
15
1873
16
1890
18
1892
21
1893
20
1907
17
1909
17
1918
25
1925
18
1925
16
1929
11
1973
48
1972
47
1973
44
1979
6
1978
6
1980
7
1989
10
1986
8
1990
10
2006
17
2006
20
2008
18
Source: Adapted from Fred E. Foldvary, “The Depression of 2008.”
The Concept of Appreciation and Depreciation
Appreciation and depreciation are two sides of the same coin, and understanding both can help you better appreciate value creation. I remember studying these terms when I was taking my first accounting class in college. While I have never been fond of crunching numbers, I’ve found that digging deep into financial statements can be rewarding in the long run.
Ultimately, the nature of what you own (real estate, airplanes, art, jewelry, stocks, and so on) dictates how often you’ll have to deal with these topics. The key to wealth creation is to own assets, whether hard assets like those listed in the previous parentheses or liquid assets like stocks, that increase in value due to appreciation.
Short-term assets like stocks can fluctuate on a daily basis, a phenomenon that’s less common with long-term assets like real estate. But it’s important to keep an eye on both so that you can keep an eye on your future cash flows!
Appreciating appreciation
The term appreciation has two distinct meanings. Let’s start with the noun, which means a feeling or expression of gratitude. For instance:
I want to express my appreciation of the readers of this book.
In finance though, appreciation has an entirely different meaning and is essential to the concept of real estate. It means an increase in the value of an asset over time. And there are several reasons for that to happen:
Increased demand for an asset
Reduced supply of an asset
Inflation
Changes in the interest rate
See the earlier “Supply and demand” section for more about how supply and demand are interrelated.
Appreciating depreciation
I’m sure you’ve heard the saying “What goes up must come down.” It applies to gravity, and it applies to real estate as well, though perhaps to a lesser degree.
Depreciation is the opposite of appreciation: It is what happens when an asset’s value decreases over time. Depreciation can happen for various reasons, many of which are outside the property owner’s control. For instance, market fluctuations and declines can reduce values. Neighborhoods that are seeing a lot of growth and development will see their home values increase; those that stagnate or decline in growth will see their home values decrease.
Whether you ultimately benefit or lose out from that metric, it’s just the way it works. This is why it’s extremely important to always remember the real estate maxim: location, location, location. That single factor can make an enormous difference in value.
Of course, regular maintenance and upkeep can prevent at least some depreciation. And it can definitely keep the property looking fresh and up to date. That’s why most landlords try to upgrade their properties at least every five years, giving them a minimum of new paint and landscaping.
Depreciation does still happen, regardless. Over time, it’s inevitable.
However, many don’t understand that it doesn’t have to be a liability, especially when you consider the after-tax advantages of owning real estate. You see, buildings on top of properties lose their value. But the land they’re built on comes with a fixed cost and does not usually decline in value. Many wealthy billionaires own real estate because of those powerful depreciation advantages.
One example is former President Donald Trump, whose tax returns went public in late 2022. Love him or hate him, and justified or not, his filings show exactly how the wealthy can work their books. Because of how accelerated depreciation is viewed under the law — which allows for deferral of income, conversion of ordinary income into lower-taxed capital gains, and artificial tax losses — he paid little to no income taxes.
For that same reason, many entrepreneurs purchase or construct buildings so that they can obtain depreciation deductions, together with deductions for mortgage interest on the loans. As a real estate developer in my prior life, I used similar means to accelerate depreciation deductions that allowed me to limit my tax liabilities.
Essentially, by using what’s called cost segregation, serious real estate investors can accelerate their depreciation deductions—sometimes to extreme levels. And there are other levers real estate owners can use to reduce their IRS obligations further. One of those is through a 1031 exchange, which defers capital gains by selling a property and replacing it with another one within a certain set of time.
This is why depreciation is a crucial concept in real estate investing. You can create positive cash flow by purchasing property while simultaneously reducing your taxable income through depreciation losses — even though the investment also appreciates.
There is no other type of asset that can do this.
Rental Income Is the Key to Value Creation
As I remind my children, income is the key to financial freedom, and there are many ways to generate income. Here are just a few:
Working a full-time job
Working a part-time job
Owning stocks that pay dividends (including REITs)
Receiving royalties from books (like the one you’re reading; thank you)
Receiving brokerage income (from selling houses)
Having high-interest savings
