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Finally, treats for REIT investors.

Just 10 years ago, real estate investing was all the rage. Banks and savings and loans poured billions into office buildings, hotels, shopping centers and other potentially lucrative projects. Individual investors got in on the action too, seeking quick, fat gains from real estate stocks. Then, in 1989, the roof fell in: Slumping home values, high interest rates and a glut of empty properties all served to crumble profits.

But now, with a new Democratic President in office, Americans are once again optimistic. Could an economic recovery help trigger another prosperous real estate cycle? Many experts say yes.

"If President Clinton's program continues to reduce intermediate-to long-term interest rates, the real estate market will be very favorable for investors," says Kenneth Campbell, a real estate analyst with Audit Investments Inc., a Montvale, N.J.-based research firm. According to the National Association of Realtors in Washington, D.C., the average mortgage rate for a conventional 30-year loan is at a 20-year low. And if inflation holds, says Campbell, mortgage rates should stay below 10%.

Moreover, some banks have been able to sell off huge chunks of their poor real estate holdings. And the sweeping rent declines of three years ago are relatively flat now. Given these factors, says Campbell, "investors can make money in real estate today."

For individual investors, one of the easiest and safest ways to profit from real estate is through real estate investment trusts (REITs). A REIT lets you own real estate without actually buying any property. How? Much like mutual funds, REITs pool the resources of many investors, allowing them to diversify quickly and cheaply.

By definition, REITs invest in a variety of companies--though each holding is comprised solely of either real estate properties (equity REITs) or mortgages (mortgage REITs). Thus, the failure of one property won't bankrupt a person's entire investment.

Even better, REIT investors don't have to wring their hands over which properties to buy and which to dump, as REITs are managed by professionals whose sole job is to keep abreast of the market.

Still, many folks are leery about dabbling in real estate stocks. Can you blame them? Thousands of REIT investors got trounced in the '70s due to an overbuilt, underleveraged market. And during the peak of the recession, REITs were often shunned altogether.

Today, with handsome dividend yields averaging 8%, REITs are a compelling alternative to CDs, currently yielding a mere 4%. In fact, REIT stock prices have soared since 1990, topping the Standard & Poor's 500 Stock Index. (Total returns for REITs in 1992 were 12.18% compared with 7.67% for the S&P.) REITs are so ripe that their assets could grow tenfold over the next 10 years to $485 billion, says Robert Frank, managing director of the Baltimore brokerage firm Alex, Brown & Sons Inc.

Homing In On REITs

Today, investors have their pick from a crop of nearly 2,000 REITs. How to choose? Frank particularly recommends equity REITs, which actually own properties. Equity REITs have the potential to increase capitalization value more so than mortgage REITs. Frank notes that equity REITs gained 14.59% last year compared with 1.92% for mortgage REITs.

Some of the best-performing equity REITs are ones that specialize in certain types of property--such as shopping centers, apartment complexes, hotels, commercial buildings and health care facilities.

For the past two years, health care REITs have enjoyed a hot streak, yielding 8% to 10% dividends. These seemingly recession-proof stocks have profited from an aging population by owning nursing homes, strong regional hospitals and rehabilitation centers. But there is some uneasiness about the market for 1993 and beyond. "Everyone is waiting to see what the President's Commission On Health Care is going to do," says David S. Leibowitz, senior vice president at the New York City brokerage firm American Securities Corp. "Wall Street hates uncertainty."

Citing the change in U.S. demographics, Leibowitz is particularly bullish about shopping centers and apartment REITs. "There are many people coming into the country. They need somewhere to live and places to shop," observes Leibowitz. These REITs are currently averaging healthy dividend yields of around 7.5%. He notes further that the over-supply of five years ago is dwindling. "People are starting to fill up the once-vacant rooms; this is definitely a plus for apartment REITs."

What To Look For

You can purchase most REITs as you would common stock. Shares trade on the major exchanges or over-the-counter just as the stock of publicly traded companies. Like common stock, REITs are usually bought in blocks of 100, and prices vary from $300 to $3,000.

Outside of the safe and hassle-free ownership of appreciable property, liquidity is a primary benefit of REITs. Unlike an outright property owner, you can sell your investment at any time, by simply placing a call to your broker. Another plus: Investors can snare a profit (in dividends or earnings-per-share) if the REIT sells off the properties it owns.

Another nice little feature of REITs is a special tax treatment that allows it to avoid double taxation. This translates into a bigger share of profits for investors than they would get with stocks.

REITs are required to distribute 95% of their taxable income as dividends to shareholders. Unlike companies that issue stock and pay taxes on earnings before they are distributed, REIT firms are exempt from corporate income tax. This is because they pay out so much of their earnings.

Prudent REIT investors should be on the lookout for three key factors: First evaluate how well dividends are covered by cash flow, says Franklin Morton, a vice president in research at Ariel Capital Management Inc. The Chicago-based full-service asset management firm oversees two equity mutual funds. "You want to make sure you buy a REIT that is paying dividends equal to or in excess of 95% of cash flow," says Morton.

Second, find out what property is owned and where it is located. Opt for REITs where management has a stake in the company. In other words, the owners of the REIT also manage the assets of the REITs.

Third, hunt for a REIT that has been around for at least eight years. Many older REITs have undervalued properties that could be sold at larger profits when the market revitalizes.

As you would with a mutual fund, make sure you read the REIT's prospectus. Pay attention to long-term performance and history of dividend increases. "Don't just focus on what dividends the REIT is currently yielding," Morton says. "Look at the expected growth rate." One last pointer: Avoid REITs that charge high front-end fees--10% or more. Since buying a REIT is much the same as buying stock, you'll have to deal with a broker. Hefty commissions can eat up your initial investment.
COPYRIGHT 1993 Earl G. Graves Publishing Co., Inc.
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Title Annotation:real estate investment trusts
Author:Sanders, Amory
Publication:Black Enterprise
Date:Jun 1, 1993
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