What to consider before you put money in real estate investment trusts

Investing in real estate is a popular strategy for people saving for retirement especially among the so-called FIRE brigade, who are racing for early Financial Independence and Retirement.

Not a bad idea to own some real estate. Great if you have 10 percent down and are okay with leverage financing. For now, though, that may not work very well.

Financing used to be cheap. It isn’t anymore, at least not right now with rising rates.

But even if you did, betting in the right direction with borrowed money is much like buying stocks with borrowed money. Sometimes it works really well. Other times, it’s a total wreck.

But if you’re thinking of following suit and investing in real estate, don’t just answer to TV ads pushed by real estate firms, check out the market too.

Real estate investment trusts (REITs), which are listed entities that invest in rent-yielding assets and distribute most of their income as dividends, are another alternative.

Part of the logic behind the REITs is simple. The trusts are required by law to pay out 90 percent of their taxable income in yield.

That’s appealing to those who may not get that much income from some mutual funds, stocks or plain old bank accounts.

REITs are yielding about 11.1 percent, compared to an 8.1 percent dividend yield for stocks at the Nairobi Securities Exchange. The savings rate stands at 3.6 percent at the time of this writing.

When you account for inflation, these competing alternatives don’t really have anything left for you. That’s awfully thin financial ground to be standing on.

Lastly, there’s the tradable benefit. Want to know how long it takes to liquidate your REIT ownership? Between 9:30am and 4:30pm on any weekday.

Having said that, are REITs the best deal in town?

When you look at the total returns, you discover a small problem. ILAM Fahari I-REIT, for instance, while yielding an average of around 12.1 percent currently, has lost over 65 percent of its value since its inception. Ultimately, the total return is negative.

When also so much of REITs’ income has to go out in dividends (over 90 percent by law), which can handcuff them when it comes to stockpiling cash for a rainy day.

Other issues REITs to be faced: the government, strapped for cash, will likely be squeezing big property owners for taxes and fees in years to come.

So, you may ask, if there are all these issues, why invest in publicly traded REITs? Look, if you’ve got limited funds, have an insatiable appetite for above-market yield and expect outperformance to follow the long underperformance – because, over time, the two must move in much the same direction, then REITs are your bet.

Boys and girls that favour a direct route are also free to pursue their own way. But the difference is like night and day.

They have to deal with a drug dealer who moves in next door, occasionally repair that bust pipe and/or deal with the adjacent building hanging sideways and so much more. In the end, the choice is yours.