Thinking about buying ASX REITs? Expert outlines the pros and cons

Clive Maguchu from State Street outlines the positives and negatives of ASX real estate investment trusts.

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ASX REITs, or real estate investment trusts, finished slightly in the red on Tuesday, while with the rest of the market finished in the green.

The S&P/ASX 200 A-REIT Index (ASX: XPJ) finished down 0.028%, while the S&P/ASX 200 Index (ASX: XJO) finished up 0.30%.

Over the past 12 months, REITs have risen by 27.34%, while the ASX 200 has lifted by 11.40%.

If you're thinking of investing in REITs, Clive Maguchu from State Street Global Advisors has some advice.

But before we get to that, let's look at what the biggest players did today.

How did the major ASX REITs fare today?

Here is a snapshot of how the ASX REITs performed on Tuesday.

In order of descending market capitalisation:

  • Goodman Group (ASX: GMG) shares finished down 0.21% to $33.36
  • Scentre Group (ASX: SCG) shares finished down 0.28% to $3.54
  • Stockland Corporation Ltd (ASX: SGP) shares finished up 0.19% to $5.21
  • Vicinity Centres (ASX: VCX) shares finished down 0.44% to $2.28
  • GPT Group (ASX: GPT) shares finished down 0.20% to $5.09.

Expert explains the pros of investing in ASX REITs

In an article published on asx.com.au, Maguchu said REITs allow investors to gain exposure to the commercial property market without directly owning physical real estate

Commercial property includes office towers, shopping malls, industrial warehouses, residential developments, and self-storage units.

The potential benefits of REITs include income generation, portfolio diversification, and liquidity.

On income generation, Maguchu explains:

The net income generated by A-REITs can potentially be consistent and predictable. It includes rental income from the properties held, less interest costs from borrowings.

To qualify for tax exemptions, A-REITs typically distribute the majority of their income to shareholders as dividends.

This makes A-REITs a potential option for income-focused investors as A-REITs have historically provided more income than shares …

Maguchu says ASX REITs provide diversification from ASX shares, bonds, and other asset classes.

This can lower overall portfolio risk because the performance of ASX REITS is less correlated to other asset classes, he said.

However, he notes that some REITs are only invested in one type of property, such as shopping centres, and investors need to take this into account if diversification is a priority.

REITs are also a cheap way to buy property and can be sold quickly, with access to funds within two days.

This compares to a typical four to six-week sales campaign and a six-week settlement period for physical property.

ASX REITs are also professionally managed, while physical property requires at least some input from the landlord.

State Street also considers them an inflation hedge because real estate values have historically risen with inflation.

Here are the risks of REITs

On the flip side, the risks of ASX REITs include impacts from a property market downturn, higher interest rates, and management risks.

Maguchu says economic downturns, an oversupply of properties, and falling rents can negatively impact REITs. Given that REITs use gearing to buy assets, they are also sensitive to rising or higher interest rates.

He says:

Rising interest rates can increase borrowing costs and make yield-focused investments like A-REITs less attractive, potentially reducing their unit prices. 

REIT values can be volatile, just like ASX shares, and can be influenced positively or negatively by the equity market's momentum.

They also offer less potential capital appreciation than physical property. This is because ASX REITs typically distribute the majority of their net rental income, leaving little funds for new investments.

Maguchu comments:

This, therefore, reduces the potential for capital growth except in the case of property market upturns.

Finally, while the professional management of REITs can be viewed as a benefit for investors, this is only the case if the managers are good at what they do!

Maguchu says:

Poor management decisions can lead to sub-optimal property purchases and leasing strategies in a competitive market.

Motley Fool contributor Bronwyn Allen has positions in Goodman Group. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has positions in and has recommended Goodman Group. The Motley Fool Australia has recommended Goodman Group. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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