One question I get asked quite often as a founder of RealtyShares, a real estate crowdfunding marketplace, is how directly investing in commercial real estate (CRE) via RealtyShares differs from a REIT which stands for Real Estate Investment Trust (often referred to as "real estate stock"). In the most basic sense, with a direct CRE investment you actually become an owner of the real estate whereas the idea behind a REIT is that you have exposure to real estate without actually owning, directly, the property.
What is a REIT?
A REIT is essentially a corporation that owns and manages a portfolio of income-producing real estate properties such as apartments, hotels, malls and office buildings (Equity REIT's or EREITs), mortgages secured by such real estate (Mortgage REITs or MREITs) or a combination of the two (Hybrid REITs).
REIT's can also be private or public.Private REIT's are not registered or traded with the Securities and Exchange Commission (SEC) and raise equity from accredited investors (i.e. individuals, trusts or other entities) whereas publicly traded REITs are registered with the SEC and traded in major stock exchanges such as the NYSE, NASDAQ and AMEX.There are approximately 800 private REITs and 200 publicly traded REITs in the United States with total assets of $400 billion.Accordingly, REITs make up only a fraction of the $11-12 Trillion Dollar US Commercial Real Estate Market.
How REITs Compare to Direct CRE Investments.
Direct investments in CRE and REITs are similar in a lot of ways.Both options offer investors balance and diversification from the traditional stock and bond markets as well as value from both the current income produced from rents as well as long term appreciation of the underlying real estate asset.
Also, as with a REIT, often times when you invest directly into CRE you can do so passively and thus you don't have to worry about the day-to-day operations and management of the asset which instead is handled by reputable management team.
The main difference between directly investing in CRE and investing in a REIT is that with the former you are investing directly into tangible commercial real estate whereas with a REIT you are investing in a corporation that in turn invests your money into real estate.In fact up to 25% of a REIT's total investments can be in assets other than real estate. Accordingly, directly investing in CRE offers investors more control and transparency than a REIT since investors have the ability to personally select each investment opportunity.
Some additional notable differences between Direct CRE Investing v. REITs include:
- Higher Leverage & Higher Returns: Direct property ownership benefits from the power of leverage (up to 80%) whereas REITs are generally leveraged at or less than 50%. Higher leverage means higher potential returns (because you can buy more property with less equity).
- Accessibility: A REIT takes this one in spades. Because many REIT's are publicly traded, access to this investment option is easy and open just as with equities. With direct CRE, access is much more limited and usually is via personal networks or registered broker/dealers or investment advisors.
Less Volatility: Although touted as an effective way to diversify a stock portfolio, the performance of REIT shares have closely tracked overall equity market performance resulting in correlation coefficients as high as 0.86 (as early as 2011). This means that publicly traded REIT's are moving in near lockstep with the market at large and are subject to the same volatility. During the same period, the comparable equity market correlation for private real estate has been close to 0.14 (ranging from -0.03 and +0.25; a very low correlation).
- More Transparency and Control: When you invest directly into a real estate asset, you know exactly what you are getting and thus the process is transparent and you maintain a certain level of control. On the other hand, when you invest in a REIT you are buying into a corporation that owns a pool of properties and you may not know exactly where your investment dollars are going.
Until recently and because of lack of access, REITs have been the only viable option for investors wanting to diversify their portfolio by investing in real estate. RealtyShares is changing that by providing accredited investors with direct access to pre-vetted real estate investments with lower investment minimums. However, whether you are investing directly in CRE via RealtyShares or your personal networks or in a REIT, one thing is certain: both options can be important to attaining a truly mixed-asset portfolio.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.