The Singapore Stock Exchange hosts a vibrant ecosystem of Real Estate Investment Trusts (REITs). From homegrown names such as CapitaLand to foreign REITs such as Manulife US, there is a plethora of REITs for us to pick from. In this article, I will cover the basics of REITs and what makes them a great investment vehicle for building long term wealth.

What are REITs?

REITs, or Real Estate Investment Trusts are companies that own income-producing real estate across a range of property sectors. The shares of such REITs are traded on stock exchanges just like those of a typical business, giving the shareholders a right to a small portion of the rental income the REITs collect from renting out their properties.

REITs structure

Before investing in REITs, it is essential that you understand the typical process of how a REIT operates in Singapore.

  1. Unitholders and REIT sponsor come out with initial capital
  2. REIT manager is employed to manage the group of properties
  3. REIT manager receive fee for its asset management service
  4. Capital employed to acquire income-producing properties
  5. REIT manager hires team of property managers to run day-to-day operations
  6. Property managers receive fee for services provided
  7. Net property income is deposited in trustee’s account
  8. A trustee is employed to safeguard unitholders’ interests. Trustee only release funds when property deeds are properly accounted for and verified
  9. Trustee earns fee for services provided
  10. Unitholders (you and I) receive income distributions every 3 or 6 months

For a more detailed explanation of how REITs in Singapore work, read this article.

Reasons you should invest in REITs

1. Allow retail investors to take part in the wealth creation by the real estate sector

Of the 10 richest people in Singapore, 5 of them derived their wealth partially or wholly from real estate. This is a testimony to the wealth that the real estate sector can create. While investing in REITs will not make us a millionaire overnight, it allows us to take part in the wealth creation of real estate. This is because REITs make investing in real estate affordable and accessible to retail investors. Few people will be able to fork out millions to invest in real estate but REITs will allow us to gain exposure to real estate investments with only a few hundred dollars.

Granted, past performance does not guarantee future performance. However, there are many factors that point towards a buoyant real estate sector in the years to come. First, Singapore’s land is scarce, limiting the supply of real estate. Additionally, as a politically stable country with a business friendly government and high skilled workforce, Singapore remains an attractive location for many businesses to set up their operations. Thus, Singapore continues to enjoy strong demand for real estate. These factors exert an upward pressure on rental and property prices. With many multinational corporations looking to enter the ASEAN market and the rise of high tech manufacturing, Singapore’s real estate sector will likely continue to enjoy tailwinds for the foreseeable future.

2. Pays good dividends

REITs in Singapore are required to distribute 90% of their taxable income to unitholders to qualify for tax transparency treatment. Under this treatment, the REITs are not taxed on income distributed to shareholders. Essentially, this regulation encourages REITs to pay higher dividends. This is why REITs have such high dividend yields compared to other blue chip companies. For instance, S-REITs (Singapore REITs) average a dividend yield of 5.6% in April 2021. This is very impressive compared to the 3-4% dividend yield of the Straits Times Index, which tracks the 30 largest public listed companies in Singapore.

Furthermore, unlike the United States which levies a 30% withholding tax on dividends for non-residents, Singapore does not tax dividends. This means that what we see is what we get. The dividend paid by REITs go straight into our pockets!

3. Provides diversification away from stocks

The third reason to include REITs in your portfolio is that it provides some diversification away from stocks. Despite their slight correlation, a mixture of REITs and stocks will make your portfolio less volatile (as observed from the graph below).

Some may argue that REITs do not provide sufficient diversification away from stocks due to their correlation, citing the example where both stocks and REITs alike suffered greatly during the 2009 financial crisis. However, this observation fails to take into account the underlying reasons of the 2009 financial crisis. The 2009 subprime mortgage crisis stems from the real estate bubble and was one that affected the entire world economy. Thus, it is to be expected that both stocks and REITs will be similarly impacted. On the other hand, in instances such as dotcom crash in 2000, stocks suffered greatly while REITs continued to deliver solid returns. This is because the dotcom bubble was mainly confined to technology stocks. In cases such as this, REITs do serve as an adequate diversification away from stocks. For additional reading on the correlation between REITs and stocks, check out this article.

4. REITs are relatively stable

The stability of REITs can be attributed to the stringent regulation implemented by the Monetary Authority of Singapore. One of which, is the maximum gearing ratio (debt-to-equity) of REITs. In essence, this regulation limits the amount of debt REITs can take. In light of the Covid-19 Pandemic, the Monetary Authority of Singapore raised the gearing ratio limit for REITs from 45% to 50%, giving REITs more leeway to take on more debt in these trying times. If you think about the ongoing Evergrande saga, excessive debt will make a company more risky.

Additionally, there are many more intricate details of the regulation of REITs in Singapore. These regulations are outlined by MAS and can be found here. In my opinion, these regulations are very desirable as they make the REIT environment in Singapore controlled one. This protects retail investors (you and me), making REITs relatively stable investments for investors seeking passive income.

Limitations of REITs

  1. Securitization of REITs resulted in them behaving like stocks

Much like stocks, REITs are traded on a stock exchange and volatility. This is unlike traditional real estate, which have relatively more stable prices.

  1. May not experience that much growth

This is because majority of earnings are paid out as dividends and are thus not reinvested to achieve more growth.

That being said, I would not see these as disadvantages or risks of REITs. The two points above come as a trade-off, something like a necessary evil for us to take part in the real estate investment and enjoy the high dividend yields synonymous with REITs.

The simple way to invest in REITs

Those who have been following my blog for some time already know what I am going to say. As I have previously wrote in my article titled “How To Start Investing With Little Money”, ETFs are the perfect way for the novice and/or lazy investor starting with a small capital. With as little as a $107 dollars at the time of writing, you can gain exposure to 27 high quality REITs in Singapore by investing in the Lion-Phillip S-REIT ETF (ticker: CLR).

For a more in depth comparison between the 3 REITs ETF that are listed on SGX, refer to this Seedly article.

Finally, I would like to end of this post by debunking a common misunderstanding that REITs are for those nearing retirement and unable to take on greater risks. In my opinion, there is a place in everyone’s portfolio for stable income producing assets such as REITs. The pandemic is perhaps the best argument for this as stable dividend pay outs can potentially tide us over a tough period. As usual, the exact proportion of your portfolio allocated to REITs should be tailored to your personal goals and preferences. Join my telegram channel here where I share more of my research!

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