Saturday, August 9, 2014

[Book Review] Investing in REITs by Ralph L. Block

This is one of the books that was highly recommended by many people to those that are looking to understand and invest in REITs. I must say, it did not disappoint. This book is thick, but they go through everything that you need to know in a slow, but clear pace. Many examples (US) were also given to help illustrate points.

Instead of a review, I will summarize my learning points from each chapter. This is actually more for myself so I can take the information from this book and start to use it in my investment philosophy.

Chapter 1
A great introduction to REITs as an asset class. Measuring the compounded past 35 years, REITs managed to clock in a fantastic 14% returns, while the S&P was less than 12%. Correlations are more linked to the S&P, while surprisingly with almost no correlation to bonds at all. Volatility is also less due to the high amount of current yield. REITs as an asset class is relatively new compared to other traditional asset classes, but it has established itself well enough to warrant investor allocation.

Chapter 2
REITs have potential for dividend growth, allowing for more income over time as compared to bonds or preferred stocks. Direct ownership of real estate can provide higher returns, but it requires time and experience, which most individuals aren't able to commit.  REITs have diversification, liquidity, management of your real estate all rolled into one.

Chapter 3
Ownership of REITs usually have tax advantages. Most REITs are in the business of owning real estate and managing them, and many interesting property sectors have recently come onboard, offering more choice for investors.

Chapter 4
A long chapter, first discussing about the characteristics of the boom-bust cycle, but specific to the property market. Different sectors of real estate can be in different phases of the cycle, not all real estate move together. The remaining chunk is on the different property sectors. Apartment REITs are stable with growth prospects linked to the economy. Industrial REITs respond the quickest to market factors. Self-storage, home communities and college housing are interesting property sectors, but have yet to come to Singapore. Health care is supposed to be a recession resistant sector.

Chapter 5
A good history of REITs and people's attitudes towards them. The 3 long-term risk of REITs are debt leverage, lack of diversification and poor management. Owning REITs as an inflation-hedge is not a good reason. Many more factors affect the value of REITs than inflation, such as supply & demand, interest rates, strength of economy, investor preference and alternatives. REITs should be owned for their current income and modest long-run capital appreciation.

Chapter 6
A look at the performance throughout the history, and lessons to be learnt, such as:
1) Do not pay excessive premiums to NAV
2) In the short-run, REITs are volatile like stocks, but are like real-estate in the long run.
3) Capital deployment decisions are one of the most important decisions of a REIT
4) Conservative balance sheets reduces risk. Short term debt to finance long term assets is risky.

Chapter 7
Different metrics to evaluate REITs were introduced here. FFO, AFFO are useful because they correct for depreciation expense. FFO is more common and standardised, but AFFO is more detailed, but calculation varies. Internal growth usually drives FFO growth.

Chapter 8
Debt/Asset ratio is a good gauge to measure balance sheet strength. Over 55% is very uncomfortable, while under 40% is considered conservative. Interest coverage ratio is (EBITDA/Interest expense).

Growth REITs usually trade at lower dividend yields. Bond-proxy REITs have high dividend yield, but low growth prospects. Turnaround REITs have high dividend yield, but high risks of failure as well.

Blue chip REITs have these characteristics: experienced management, access to capital when needed, balance sheet strength, sector focus, conservative dividend policy and good corporate governance.

Chapter 9
Long-term investors should be less concerned with the noise, such as quarterly FFO data, occupancy and rental rants and NAV.

Valuing REITs can be done with the NAV model, P/FFO or P/AFFO and discounted cash flow and dividend growth model. REITs should be compared to their own historical valuations and multiples, while also taking into account the valuation of the rest of the REIT sector. REITs NAV premium and yield against HY bonds can help show relative valuation.

Chapter 10
REIT allocation is dependent on investor goals and risk tolerance, but 15-20% should be appropriate for most investors. An absolute minimum of 6-8 REITs is necessary to have diversification within the asset class. Sector diversification should also be taken into consideration.

Chapter 11
Although going global has its own set of challenges and risk, it also allows for better valuations and yields. Mutual funds or ETFs are usually the best investment vehicle, unless the investor is very savvy.

Chapter 12
Interest rates can affect REITs by making other income investments more favourable, causing price to increase because investors demand a higher yield. REITs with weak balance sheets should be avoided. Small REITs may underperform because they lack management skill and access to capital.

Chapter 13
REITs are only a portion of the real estate in most markets, so there is plenty of room of REITs to continue growing. REITs provide high and growing current income while offering modest capital appreciation.

Personal Conclusion
After reading this book, I definitely feel like I understand REITs more, as well as what is "under the hood". Knowing such information helps you understand the reason and rationale for your investments to perform well in the future and alerts you to smell out anything fishy.

I will try to come up with a simple model to evaluate REITs, most likely with metrics that focus solely on individual REITs, instead of the broad spectrum. Likely this will use a range of metrics, but I will explore NAV, P/FFO, Debt/Assets, Interest Coverage, Cap Rate and anything else that I might have forgotten.


  1. Good review. Thanks

  2. Hi,

    I stumbled upon this review and was wondering how does this book match up to Building Wealth Through REITs by Bobby Jayaraman?

    I see quite a few similarities but wondering if most of the information would be repetitive.



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