ottawacitizen.com
The REIT idea at the right time
Don Macdonald
The Montreal Gazette
Many investors receiving December statements from their financial advisers are doubtless feeling shell-shocked by the steep decline in market indexes over the last four months.
The TSE 300 is down 23.5 per cent since hitting its high Sept. 1. That kind of a wrenching decline may have more than a few people on the lookout for a safe harbour.
One answer could well be real-estate investment trusts.
Unlike the stock market, REITs across North America enjoyed a terrific year in 2000, which is not surprising since historically they have had a low correlation to equity markets.
That low correlation, in itself, should make REITs a candidate for a well-diversified investment portfolio.
Don't take it from us. Princeton University economic professor Burton Malkiel recommends REITs to small investors in his classic book on investing, A Random Walk Down Wall Street, and legendary value investor Warren Buffett has dabbled in REITs in recent years.
What are they? Real-estate investment trusts, which trade like stocks on the Toronto Stock Exchange, allow investors to participate in a portfolio of commercial real-estate properties. REITs pay out most of their income to unit holders and those dividends benefit from favourable tax treatment.
Last year, Canada's REITs, as measured by the Scotia Capital's REIT index, produced a total return of 18 per cent, compared with a total return of 6.2 per cent for the TSE 300. And REITs in the United States had an even more stellar year in 2000, returning 26 per cent.
The tech wreck in stocks was behind this dramatic performance.
REITs looked old and stodgy when techs were hot, but became an oasis of safety when the meltdown began last spring.
It's unclear whether inflows of money seeking a safe alternative to stocks will continue through this year but analysts, nevertheless, remain upbeat about the prospects for healthy returns from Canadian REITs.
Scotia Capital real-estate analyst Michael O'Rourke said he's forecasting total returns from Canadian REITs of about 15 per cent this year mostly based on a dividend yield of between eight and 13 per cent, depending on the REIT, and some modest capital appreciation.
"I still think it's a good place to be," Mr. O'Rourke said. "It's a reasonable place to put a portion of your portfolio. It's done very well and I think it will do relatively well in '01."
But perhaps more important than a one-year outlook is the question of whether REITs are suitable investments for the long haul.
On that issue, Mr. Malkiel, a distinguished observer of financial markets, replies with a resounding yes. He recommends that all investors put at least some of their money in REITs.
He observes that REITs in the U.S. have produced comparable rates of return to common stocks over the past 30 years and can reduce the over-all risk of portfolio because, once again, they are poorly correlated to the stock market.
Additional benefits include their effectiveness as a hedge against inflation and their moderate valuations relative to blue-chip stocks through the bull market of the late 1990s.
The REIT universe is obviously much larger in the U.S. than in Canada.
There are more than 200 REITs trading in the U.S., mostly on the New York Stock Exchange, compared to just a dozen that are left in Canada after a wave of consolidations.
As Mr. Malkiel notes, REITs are good investments, but must be approached with caution. For one thing, these are not GICs. Investors entranced by high-income payouts shouldn't forget that REITs, like stocks, are prone to fluctuations in unit prices. REIT unit prices are particularly sensitive to interest-rate changes since they are purchased on the basis of their yield.
As well, REITs can only be as prosperous as the properties they own. Therefore, investors have to consider the quality of the REIT holdings as well as the level of debt the REIT is carrying.
You should also remember that REITs tend to focus on one type of commercial real estate such as shopping malls, office buildings or hotels that each have their own particular dynamics. To achieve diversification, investors may want to buy more than one REIT or choose to buy a mutual fund that holds REITs. Several fund companies hold REITs in their real estate and high-yield offerings.
With some diligent research and a little prudence, REITs can be a great addition to a portfolio that's built to last. |
