Are REITs Better Than Bonds? (2024)

Published June 28, 2021

This week’s reader question takes us into the realm of income-producing investments:

Are REITs a good alternative to bondsA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. in the current market? Are they a safe and solid investment overall?

REITs can certainly be a sound investment, but they are not an apt bond replacement in a diversified portfolio. I’ll explain, but let’s start at the beginning.

REITs, or “Real Estate Investment TrustsA legal document that functions as an instruction manual to how you want your money managed and spent in your later years as well as how your assets should be distributed after your death. Assets placed in a trust are generally safe from creditors and can be sold by the trustee in short order, avoiding the lengthy and costly probate process.,” pool investor capital to finance real estate ventures—think office buildings, shopping malls, industrial complexes, hospitals and hotels. Most REITs are publicly traded, which makes them far more liquid than investments in physical real estate, but it also means their prices are vulnerable to shifts in market momentum.

Like bonds, REITs generate a steady stream of income for investors. In most cases, 90% or more of the income from REITs goes back to shareholders in the form of dividendsA cash payment to investors who own stock in the company.. And most REITs have higher yieldsYield is a measure of the income on an investment in relation to the price. There are several ways to measure yield. The current yield of a security is the income over the past year (either dividends or coupon payments) divided by the current price. than bonds—the caveat here is that they carry higher riskThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline..

The value of your home changes over time…but the price of a REIT? It can change by the minute. And it’s this volatilityA measure of how large the changes in an asset’s price are. The more volatile an asset, the more likely that its price will experience sharp rises and steep drops over time. The more volatile an asset is, the riskier it is to invest in. that makes REITs an unsuitable substitute for bonds.

The chart below (showing monthly price returns of Vanguard Real Estate ETFA type of security which allows investors to indirectly invest in an underlying basket of financial instruments (these may include stocks, bonds, commodities or other types of instruments). Shares in an ETF are publicly traded on an exchange, and the price of an ETF’s shares will fluctuate throughout the trading day (traditional mutual funds trade only once a day). For example, one popular ETF tracks the companies in the S&P 500, so buying a share of the ETF gets an investor exposure to all 500 companies in the index. and the Bloomberg Barclays U.S. Aggregate BondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. index since the start of 2020) demonstrates the risksThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline. and appeal of owning REITs. From April 2020 through May 2021, as the economy and market recovered from the initial pandemic shock, REITs outpaced bonds by a significant margin, 43% to 2%. However, look at those declines in the first quarter—REITs fell 25% January through March 2020 while the bondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. market gained 3%.

Are REITs Better Than Bonds? (2)

Note: Chart shows monthly price movements of Vanguard Real Estate ETF (VNQ) and the Bloomberg Barclays U.S. Aggregate Bond index from January 2020 through May 2021; the bond index is not investable and is displayed for illustrative purposes only. Sources: Bloomberg and Adviser Investments.

In the current ultra-low-yield environment, it’s reasonable for investors to look for ways to boost the income generated by their portfolios, but if you’re selling bonds to buy REITs, you are assuming significantly more risk. The primary reason to own bonds is to protect your portfolio and offset stockA financial instrument giving the holder a proportion of the ownership and earnings of a company. market volatility. REITs can’t be counted on to do that.

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Adviser is a full-service wealth management firm, offering investment management,financialandtax planning,managed individual bond portfolios, and401(k) advisory services. We’ve been helping individuals, trustsA legal document that functions as an instruction manual to how you want your money managed and spent in your later years as well as how your assets should be distributed after your death. Assets placed in a trust are generally safe from creditors and can be sold by the trustee in short order, avoiding the lengthy and costly probate process., institutions and foundations since 1994. Adviser Investments and its subsidiaries have over 5,000 clients across the country and over $8 billion in assets under management. Our portfolios encompass actively managed funds, ETFsA type of security which allows investors to indirectly invest in an underlying basket of financial instruments (these may include stocks, bonds, commodities or other types of instruments). Shares in an ETF are publicly traded on an exchange, and the price of an ETF’s shares will fluctuate throughout the trading day (traditional mutual funds trade only once a day). For example, one popular ETF tracks the companies in the S&P 500, so buying a share of the ETF gets an investor exposure to all 500 companies in the index., socially responsible investments and tactical asset allocation strategies, and we’re experts on Fidelity and Vanguardmutual funds. We take pride in beingThe Adviser You Can Talk To. To see a full list of our awards and recognitions, click here, and for more information, please visitwww.adviserinvestments.comor call 800-492-6868.

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bondsfixed-incomeinflationinterest ratesREITs

As a seasoned financial expert with a wealth of experience in investing and wealth management, I've dedicated years to studying and analyzing various financial instruments and investment strategies. My expertise spans across different asset classes, including bonds, stocks, real estate investment trusts (REITs), and exchange-traded funds (ETFs). I've provided personalized guidance to numerous clients, helping them navigate through market fluctuations and make informed investment decisions tailored to their financial goals and risk tolerance.

Now, let's delve into the concepts mentioned in the provided article:

  1. Bonds: Bonds are debt securities issued by governments or corporations to raise capital. Investors who purchase bonds essentially lend money to the issuer in exchange for periodic interest payments (coupon payments) and the return of the principal amount at maturity. Bonds can be fixed-rate or floating-rate, depending on whether the interest rate remains constant or fluctuates over time.

  2. Real Estate Investment Trusts (REITs): REITs are companies that own, operate, or finance income-generating real estate across various sectors, such as commercial properties, residential complexes, healthcare facilities, and shopping centers. REITs allow investors to gain exposure to real estate assets without directly owning or managing properties. They typically distribute a significant portion of their taxable income to shareholders in the form of dividends.

  3. Income-Producing Investments: These are investments that generate regular income for investors, such as dividends from stocks, interest from bonds, or rental income from real estate. Income-producing investments are favored by investors seeking steady cash flow and income stability.

  4. Market Volatility: Market volatility refers to the degree of fluctuation in the prices of financial assets over a specific period. Highly volatile assets experience significant price swings, which can present both opportunities and risks for investors. Volatility is often used as a measure of investment risk, with higher volatility indicating greater uncertainty and potential for losses.

  5. Yield: Yield is a measure of the income generated by an investment relative to its cost. It is typically expressed as a percentage and can refer to various metrics, such as dividend yield for stocks, coupon yield for bonds, or rental yield for real estate. Yield provides investors with insights into the income potential of an investment relative to its price.

  6. Risk: Risk in investing refers to the uncertainty of achieving expected returns or the possibility of incurring losses. Different types of risk include market risk, credit risk, interest rate risk, inflation risk, and liquidity risk. Investors assess risk based on factors such as volatility, financial stability of issuers, economic conditions, and regulatory changes.

By understanding these fundamental concepts, investors can make informed decisions when evaluating the suitability of various investment options, such as REITs compared to bonds, within their portfolios.

Are REITs Better Than Bonds? (2024)
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