There are many different investments that can make up a strong, diversified portfolio. Buying shares of publicly traded securities – such as stocks or real estate investment trusts (REITs) – can be a good way to build growth over time and help protect against risk. But when considering REITs vs. stocks, which is the better investment? There are many similarities between the two securities, but also some differences that investors need to keep in mind. Working with a financial advisor can help you determine what allocation of stocks and REITs fit your goals, timeline and risk profile.
What Are REITs?
A real estate investment trust, or REIT, is a company that holds – and often manages – various real estate investments. REITs are funded by investors’ pooled funds, who are able to buy into the REIT by purchasing shares.
As the real estate investments held by the REIT appreciate or bring in revenue (through things like rent payments from tenants), investors are rewarded. Growth can be both immediate and long-term, making REITs a simple way to invest in real estate and bolster one’s portfolio.
How REITs and Stocks Are Similar
For some investors, REITs may represent the best of both worlds, as these investments combine the simplicity of stocks with the growth potential of real estate. In fact, REITs behave very similarly to stocks in many ways.
Both are sold as shares to investors
Investors who want to buy into a specific company do so by purchasing shares, which is simply a small portion of that company’s ownership. The capital generated by investors can be used by the company for a variety of purchases. With REITs, investors also buy in by purchasing shares. The capital generated is used to fund that company’s real estate portfolio. This may mean purchasing, renovating, managing or maintaining those properties.
Both can be publicly or privately traded
Companies can choose to remain privately held or trade their stocks on a public exchange. The same goes for REITs, which can be publicly-traded, privately-traded or even non-traded. The risk and liquidity for each investment varies depending on whether the stock is privately or publicly traded.
Both can be key parts of your portfolio
Though a more volatile (and risky) investment, stocks can play an important role in an investment portfolio’s success, potentially encouraging portfolio growth and boosting its value. They also allow investors to put their money to work within companies and industries that are important to them personally. REITs do the same thing. They enable investors to invest in real estate while also mitigating loss, allowing them to put their money to work in real estate without shouldering all of the risk. By adding REITs to a portfolio, investors are also able to diversify their investments, helping to hedge against market downturns and inflation.
How They Differ
Of course, there are also some key differences for investors to keep in mind when it comes to investing in REITs or investing in stocks.
REITs focus on real estate
As the name states, REITs are real estate-based investments. This may make them an attractive option for investors looking to put their money in the real estate market, without the risk of buying and managing property. Individual stocks, however, can fall into a wide range of categories. Stocks allow investors to choose certain industries – and even specific companies – which may or may not relate to real estate.
Stocks offer more personalization and control
Because stocks enable investors to buy shares of any publicly-traded company, they are a very personalizable investment. You can buy shares of your favorite apparel brand, your favorite social media platform or even your favorite movie theater company … whenever you want. REITs, on the other hand, represent a collection of real estate investments. Investors don’t have a say in the investments held within the REIT or how they are managed. And while some REITs may focus on, say, apartment buildings or commercial complexes, they don’t offer specific personalization beyond that.
REITs must pay dividends
Investors may receive periodic payouts, called dividends, after certain investments recognize growth. Dividends may be offered by stocks, mutual funds or even exchange-traded funds (ETFs). These bonus funds can be withdrawn and used for other purposes or even reinvested back into the investor’s portfolio. Not all investment stocks pay out dividends, and the value of the dividends received may vary. Dividends are required of REITs, though. According to the IRS, REITs must pay out at least 90% of their taxable income as dividends to investors. These dividends can boost your portfolio or even provide a passive income stream
REITs vs. Stocks: Which is Better?
As with most financial topics, choosing between REITs and stocks is a very personal decision.
If you are interested in a real estate investment that is reliable, hands-off and offers dividends, REITs could be the answer. If you’re looking for a higher-risk – but high-potential – investment or want to be able to invest in specific companies you admire, buying individual stocks could be the answer.
With that said, it’s always wise to diversify your portfolio; in many cases, this might mean purchasing both stocks and REITs.
A well-diversified portfolio helps investors personalize the experience and find the investments that pique their interest the most. It also helps to invest in a variety of different industries, investment types and risk tolerances. This enables investors to mitigate risk, hedge against market downturns and even help balance out future inflation losses.
The Bottom Line
Stocks and REITs both let investors buy shares of a company for growth potential and portfolio diversification. They can be publicly or privately traded and may be accessible to investors of any experience level. REITs may be focused on commercial, residential or other types of property. Stocks offer a wide variety of industries and companies. REITs can be an excellent source for passive income because of their consistent dividends. While many stocks also offer dividends, this isn’t always the case. Both REITs and stocks can be tailored to fit your investment style. REITs offer a more hands-off approach for investors who only want to consider adding real estate investments, while stocks allow for direct control of securities.
Tips for Investing in REITs vs. Stocks
- Choosing between stocks and REITs or choosing how much of each to buy, isn’t the only decision investors face. And sometimes you need perspective, advice and expertise. We can help. SmartAsset’s matching tool can pair you with a financial advisor in your area who can help you think through your goals and make sure they’re specific, measured, achievable, relevant and timely. If you’re ready, get started now.
- Be sure to take periodic advantage of a calculator to determine an ideal asset allocation and then engaging in passive investing strategies.
Photo credit: ©iStock.com/Zinkevych, ©iStock.com/Bim, ©iStock.com/ipopba