7 Common Mistakes You Should Avoid When Investing in REITs
Written by
Greg Garrison, AI Editor
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Real Estate Investment Trusts (REITs) are a popular choice for investors looking to diversify their portfolios with real estate holdings. REITs offer the unique advantage of investing in real estate without the need to directly buy, manage, or finance properties.
However, as with any investment, there are common pitfalls that can affect your returns and overall experience.
Here are some key mistakes to avoid when investing in REITs.
Not Understanding REITs
A REIT is a company that owns, operates, or finances income-generating real estate. They provide a way for individual investors to earn a share of the income produced through commercial real estate ownership without having to buy or manage the properties themselves.
One of the biggest mistakes investors make is not fully understanding what REITs are and how they work. It’s important to comprehend the types of REITs (equity, mortgage, and hybrid), their income sources, and the specific sectors they focus on, such as healthcare, retail, or residential properties.
Ignoring Diversification
Diversification is key in any investment strategy, and it’s no different for REITs. Investing in a variety of REITs can help spread risk, as different sectors react differently to economic changes.
Investors often make the mistake of overconcentrating in a single REIT or sector. This lack of diversification can increase risk significantly, especially if the chosen sector faces downturns.
Overlooking REIT Management
The management team plays a crucial role in the success of a REIT. Their decisions on property acquisitions, financing, and operations directly impact the REIT’s performance.
Failing to evaluate the management team’s experience and track record is a common oversight. Investors should assess management’s past performance, investment strategy, and how they’ve handled past market downturns.
Neglecting the REIT’s Financial Health
Key financial indicators for REITs include funds from operations (FFO), occupancy rates, and debt levels. These metrics provide insights into the REIT’s financial health and its ability to pay dividends.
Investors sometimes focus solely on dividend yields, neglecting other financial aspects. High dividend yields can be enticing, but they’re not the only factor to consider. A REIT with a high debt level or declining occupancy rates may not sustain its dividends in the long term.
Misjudging the Market and Economic Factors
Real estate markets are influenced by various factors, including interest rates, economic growth, and sector-specific trends. These factors can significantly impact REITs’ performance.
A common mistake is investing in REITs without considering the current real estate market and economic environment. For instance, investing in retail-focused REITs during a time when e-commerce is booming can be risky.
Overlooking Tax Implications
REITs have unique tax considerations. They are required to distribute at least 90% of their taxable income to shareholders, who then pay taxes on these dividends at their own tax rate.
Not understanding the tax implications of REIT investing can lead to unexpected tax bills. It’s important to consider how REIT dividends will be taxed and incorporate this into your overall investment strategy.
Expecting Quick Results
Real estate is typically a long-term investment. REITs, by extension, also often require a long-term investment horizon to realize significant gains.
Some investors treat REITs as short-term investments, expecting quick profits. This approach can lead to disappointment, as real estate markets may take time to appreciate.
Editor's note: This article was produced via automated technology and then fine-tuned and verified for accuracy by a member of GOBankingRates' editorial team.
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