REIT – An overview- a new investment opportunity for a retail investor

RG. BALASUBRAMANYAM

WHAT ARE REIT?

REIT stands for Real Estate Investment Trust-it is an investment option available to retail investors to broad base their investment portfolio and minimize the portfolio risk. REIT are securities linked to real estate that can be traded on stock exchanges once they get listed. The structure of REIT is similar to that of a mutual fund. Just like mutual funds, there are sponsors, trustees, fund managers and unit holders in REIT. However, unlike mutual funds, where the underlying asset is bonds, stocks and gold, REITs invest in physical real estate. The money collected is deployed in income-generating real estate. This income gets distributed among the unit holders. Besides regular income from rents and leases, gains from capital appreciation of real estate also form an income for the unit holders.

Nearly 40 countries have adopted the U.S.-based REIT approach to real estate investment offering all investors access to portfolios of income producing real estate across the globe. Mutual funds and exchange-traded funds offer the easiest and most efficient way for investors to add global listed real estate allocations to portfolios. India has introduced the REIT in 2015 [ the Securities and Exchange Board of India (real estate investment trust) regulations, 2014, as amended (the REIT regulations)]

While the U.S. remains the largest listed real estate market, the listed real estate market is increasingly becoming global. The growth is being driven by the appeal of the U.S. REIT approach to real estate investment. Today nearly 40 countries have REITs, including all G7 countries.

WHAT BENEFIT DOES A GLOBAL LISTED REAL ESTATE ALLOCATION PROVIDE IN A DIVERSIFIED INVESTMENT PORTFOLIO?

Research done by the investment consulting firm Wilshire Associates showed that an allocation to global listed real estate improved the returns of a diversified investment portfolio.

Analyzing the risks and returns for various asset classes (stocks, bonds, real estate and cash) for the period of 1976-2014, Wilshire constructed optimized portfolios of these assets – with and without an allocation to global listed REITs – for a variety of investment horizons. Over the period of the analysis, Wilshire found that a portfolio including global listed REITs produced a higher annualized portfolio return and lower annualized portfolio risk than a portfolio without global listed REITs, resulting in an ending portfolio value that was 6.5 percent higher

GLOBAL PRACTICES

Globally, REITs and InVITs are popular asset class for retail investors. REITs, InVITs are globally listed and are actively traded in stock exchanges. The most common index for the REIT and global listed property market is the FTSE EPRA/Nareit Global Real Estate Index Series, which was created jointly by the index provider FTSE Russell, Nareit and EPRA, the European Public Real Estate Association

 The index is used by a variety of institutional investors, money managers and funds to manage real estate investment on a global basis. It contains both REITs and non-REIT listed property companies. The Global Index Series contains the Developed Markets indices and the Emerging Markets indices.

 other organizations dealing with REITs

• Members of the REESA include the Asian Pacific Real Estate Association, (APREA);
•  the Association for Real Estate Securitization (ARES);
• the British Property Federation (BPF);
•  the European Public Real Estate Association (EPRA);
• the Property Council of Australia (PCA,);
• the Real Property Association of Canada (Realpac) and NareiT

The easiest and most cost-efficient way to add a global listed real estate allocation to a portfolio is purchasing an investment in a mutual fund or exchange-traded fund of these securities.

INDIAN SCENARIO:

REITs have been in the making for more than a decade in India, but it was only in October 2013 that a draft guideline was issued by the Securities and Exchange Board of India(SEBI). However, lack of clarity on the tax implications on the income earned and some other related aspects were holding back the instrument from becoming a reality. Though there was some movement in the 2015 Budget to overcome the issues, lack of clarity on a few things still remained. In the last few years, several amendments were made to make REITs more attractive. In the latest amendment on 1 March 2019, SEBI reduced the minimum investment limit in REIT to ₹50,000 from ₹2 lakhs.

Issue details of Embassy Office Parks – New IPO (initial Public offer) – of units

Embassy parks REIT is registered as an irrevocable trust under the Indian trust act, 1882 and as a real estate investment trust under the Securities Exchange Board of India (Real Estate Investment trust) regulations 2014. Principal place of business, Bengaluru.

Details of issue are as under;

WHETHER IT MAKES A GOOD INVESTMENT DECISION?

Real estate as an asset class has always attracted investors, but the high ticket size made it out of reach for many. Investing in grade A office space or prime real estate location is out of the question even for many wealthy individuals. But REITs can provide an option to the retail investors to invest in highend commercial real estate, as the minimum investment has been kept very low. “Investment in commercial real estate is a highly capital-intensive affair. REITs are a very viable addition to investment portfolios as they allow investors to participate in an asset class previously reserved only for the affluent few,” is the analyst’s view.

 After recent amendments in the REIT regulations, rating agency ICRA Ltd stated in its press release, “Current investment avenues for retail investors in income generating infrastructure and real estate projects are limited due to high minimum investment requirements for Alternate Investment Funds (AIFs) and other pooled funds. Listed Infrastructure Investment Trusts (InvITs) and REITs can be a transparent and stable investment option for retail investors due to the various regulatory stipulations.”

Since Embassy Office Parks REIT is the first REIT in India, there is no history of REIT performance or risks. Hence, it is making advisers reluctant in suggesting this as an investment to its retail clients. “There are likely to be some teething trouble initially; so we would suggest that investors wait before investing in it,” is the view of an investment advisor.

Once Embassy Office Parks REIT gets listed on stock exchange, it is expected that more REITs will follow. The listing and its subsequent performance would be closely monitored by various stakeholders—developers, institutional funds, corporate houses, etc. A successful REIT listing might result in multiple offerings by various other sponsors, including office, retail, warehousing, hospitality etc.,

EXPECTED RETURN

Typically, commercial real estate provides returns between 8% and 10% per annum. However, grade A office space and commercial space in prime locations can provide even better returns. “The projected return on investments are anywhere between 8% and 14% in the short to medium term (post adjustment of the fund management fee), with minimum risks,”

But one may need to stay invested for a longer period. “As in any asset class, one needs to keep a long term horizon, and be patient in riding out the real estate cycles that do last long. Expectations in the current market would be of low- to mid-level double-digit returns,”

Typically, commercial leases are of long periods like six or nine years or even more, with rent escalation clause. Experts believe that this make REITs less volatile than other investment avenues. “REITs are far less volatile than the stock market, FDs, mutual funds and gold as regulations maintain that 80% of the REITs listings must be of rent-generating assets,”

 Before considering investments in REITs, make sure that you are aware of the taxability on returns. According to SEBI rules, REITs are to distribute 90% or more of its earnings—be it divided, interest or rent—to investors or unit holders at least twice a year. “Such income received by the investor under the Income Tax Act, 1961, shall be treated in the same nature and the same proportion as it had been received or accrued,”. Also, “According to section 10(23FD) read with section 115UA of the Act, all the incomes received from REITs shall be exempt from taxation except the interest income received from the special purpose vehicle by the REIT and rental income from the property that is owned directly by the REITs,”. Largely, REITs will distribute most of their income in the form of dividend, which is tax free in the hand of the investor.

SUM UP

Investment in REIT is a good option. We can wait and watch the performance of embassy REIT and decide on new IPOs. Going by the global experience, REIT offers a safer investment option as compared to equity, with steady returns and also an upside in stock value (due to capital appreciation of the underlying properties). The risk is moderate compared to risk in investing in equity, real estate etc., In my view an asset allocation of 10-20% of the overall portfolio will balance the risk and also improve the return on investment. The expected returns as per investment advisors would be in the range of 10-12% with scope for capital appreciation. The dividends, (as the REITs will be declaring, mostly dividends), will be tax free in the hands of investors. Therefore, it makes a good investment option.