Putting on the Reits
Excellent half-year results for Reits should be balanced against their exposure to property and the plight of UK banks
If timing is everything then UK real estate investment trusts have a terrible sense of it. Launched to much fanfare in January 2007 they soon found their share prices trading at a discount to net asset value, the industry benchmark for valuing a property company, as investor and public sentiment turned away from property with the onset of the financial crisis.
UK Reits struggled to regain the lost ground, but the latest figures show them trading at a modest 3.6 per cent discount to NAV, compared to an average discount during the recession years of 18 per cent.
Yet before the recession, Reits internationally were trading at a premium of 35 per cent to NAV, with national variations, reflecting the vehicle's tax-efficient structure and the appetite investors had for property. UK investors could be forgiven for thinking there is an opportunity to exploit while UK Reits continue to trade below their NAV.
First, it is important to understand what a Reit is. UK Reits were introduced in 2007 to allow investors to gain easy exposure to commercial property without many of the risks and responsibilities of direct ownership, but with the same tax treatment.
Reits pay no corporation tax on any profits arising from their property rental business and in return for this tax treatment they must comply with a series of business conditions. For instance, they must distribute to their shareholders at least 90 per cent of their property investment profits every year.
Reits certainly have their place in an investor's portfolio and balanced investment strategy. As they distribute most of their profits annually, they represent a reliable and steady income stream. There are also diversification benefits to investing through Reits; some Reits specialise in certain types of assets such as out of town shopping centres or City offices, whereas others have exposure to a broader variety of property types.
From a tax perspective they are also relatively hassle free for the investor due to the Reit itself withholding income tax at 20 per cent on dividends, much as a UK bank withholds tax on interest income earned by UK taxpayers.
Reits' listed status also ensures high standards of corporate governance, disclosure, transparency and scrutiny by analysts and investors.
A key advantage for individual investors is the low minimum investment threshold when investing in a Reit, compared to direct property investment, which is a "chunky" undertaking particularly for commercial real estate. The transactional costs of Reit investment are small, and shareholdings in most Reits are highly liquid, making it easy for investors to realise their investment if the timing is right or if they need the cash to pursue other opportunities.
That said they do not come without their own risks. Due to Reits being listed entities they can be a relatively volatile investment, especially compared to direct investment in property and open-ended bricks and mortar funds. Reits' share price fluctuates more than, and independently of, their NAV. Indeed, in the short term Reits have a stronger correlation to the FTSE 100 than to the underlying property market.