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What’s the Difference Between REITs and REIT ETFs?

by Olufisayo

If you are new to real estate investing, there are many unique terms, acronyms, and phrases that can leave you feeling confused and discouraged. But don’t fear! The real estate industry isn’t the only industry that has complicated jargon—just ask lawyers, doctors, or rocket scientists.

Learning anything new requires time, patience, and a helping hand. In the spirit of welcoming new investors into the space, this post is going to break down two of the more confusing concepts new investors encounter when investing in commercial real estate—REITs and REIT ETFs.

First, let’s define REIT, as it should probably be explained before diving headlong into REIT ETF.

What is a REIT?

REIT stands for real estate investment trust and, essentially, is a company that specializes in investing in real estate. These companies handle some or all of the principal activities associated with buying, selling, managing, developing, and financing real estate opportunities.

Being a trust, REITs are listed on stock exchanges and are traded both privately and publicly. Private trusts are only available to accredited investors and generally have steep investment minimums. This means in order to invest in a privately traded REIT, you’ll need a high net worth and you’ll need to meet minimum income requirements. However, many REITs are publicly traded and are available to anyone with a brokerage account.

When you invest in a REIT, you aren’t actually investing in real estate directly. Instead, you are investing in a company whose job is to invest in real estate. It’s important to note this because it will be important when pointing out the differences between a REIT and a REIT ETF.

What Makes REITs Attractive to Investors?

REITs are perfect for investors who want to gain exposure to real estate without actually having to do the work of finding, purchasing, developing, and managing properties. This degree of separation makes investing in a REIT much less risky because investor capital is spread across many more properties, rather than one or two directly managed by the investor.

As a result, REITs are a much more diversified investment than single properties. The idea is that a single property can fail for a number of reasons. If you were invested in that one property, your investment would also fail by association. However, if a property managed by a REIT fails, your investment is much more secure because the REIT you hold shares in owns many other properties that have not failed.

Another benefit to REITs is familiarity. Because REIT shares are essentially stocks, REITs seem familiar to investors who already have exposure to the stock market. It is much easier to invest in the shares of a company whose entire function is to invest in real estate than it is for investors to learn the ins and outs of an entirely new industry.

What is a REIT ETF?

Ok, so we get the gist of REITs. How does that change when we add the acronym ETF in the mix? ETF stands for exchange-traded fund. A fund is a professionally managed set of securities purchased through pooled investor capital. There are many different types of funds—like mutual funds, hedge funds, pension funds, and exchange-traded funds. There are funds for all different types of securities—commodities, stocks, and bonds among others.

Exchange-traded funds, as the name implies, are traded on public exchanges like stocks. This means ETF shares can be bought and sold during the open market. This contrasts with traditional funds, which are only traded once a day. This makes an ETF a hybrid product—it is both a stock and a fund.

An ETF That Invests in REITs

Ok, we are almost there!

  • ETFs are funds that are traded on the stock exchange.
  • REIT ETFs are ETFs that purchase shares across a large number of REITs.

REIT ETFs vs. REITs: Final Thoughts

REIT ETFs have two degrees of separation from actual real estate, as opposed to a REIT’s one. Put another way, a REIT invests in many different properties and a REIT ETF invests in those REITs. This makes REIT ETFs even more diversified than REITs, which were already more diversified than investing in real estate directly.

From the perspective of the average investor, there is little difference between REITs and REIT ETFs. Both are indirect ways to gain exposure to real estate, with ETFs being the most diluted and the least risky. ETFs perform well at scale—i.e. when an entire asset class like real estate performs well. However, this broad approach fails to address specifics in the real estate market.

REITs, on the other hand, tend to be specialized due to the sheer scope of the real estate market. Most REITs will focus on one type of property like grocery stores, restaurants, warehouse spaces, or office buildings. Because of this specialization, REITs can take advantage of—or get wrecked by—particular booms and busts within the real estate market. REITs tend to be riskier than REIT ETFs, but the rewards are also higher.

About the Author

Roni Davis is a writer, investor, and legal assistant operating out of the greater Philadelphia area.

Photo by RODNAE Productions from Pexels

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