While most REITs focus on investing in income-producing properties or mortgage-backed securities, there is a niche area where REITs invest in other REITs.
This article delves into the intricacies of this relatively uncommon practice, discussing the legal and regulatory factors, potential benefits and drawbacks, and examples of REITs that have historically invested in other REITs. We also explore factors investors should consider before investing in such REITs, as well as the associated risks.
Table of Contents
Can REITs Invest in Other REITs?
Yes, REITs can invest in other REITs, provided they adhere to certain legal and regulatory guidelines. The rules governing such investments may vary depending on the jurisdiction in which the REIT operates. In the United States, for example, REITs are allowed to invest in other REITs as long as they meet specific requirements set forth by the Internal Revenue Service (IRS).
Benefits of REITs Investing in Other REITs
There are several potential benefits for a REIT investing in another REIT, including:
- Diversification: By investing in other REITs, a REIT can diversify its portfolio, reducing the impact of any single property or market segment on its overall performance.
- Access to specialized expertise: Some REITs have specific expertise in certain property types or market segments. By investing in these specialized REITs, a REIT can gain exposure to niche markets without having to develop the expertise in-house.
- Capital deployment: Investing in other REITs can be an efficient way for a REIT to deploy excess capital, particularly when direct real estate investment opportunities are scarce or too expensive.
Potential Drawbacks
There are also potential drawbacks to REITs investing in other REITs:
- Duplication of fees: Investing in another REIT may lead to additional management fees, which can reduce the overall return for investors.
- Conflicts of interest: There may be situations where the interests of the investing REIT and the target REIT do not align, leading to potential conflicts of interest.
- Limited control: When a REIT invests in another REIT, it may have limited control over the management and operations of the target REIT, which could impact the overall investment performance.
Examples of REITs Investing in Other REITs
It is not uncommon for REITs to invest in other REITs. For instance, some large REITs with diversified portfolios may choose to invest in smaller, specialized REITs to gain exposure to specific market segments. This strategy can help the larger REIT diversify its investments and potentially improve its overall performance.
- Hannon Armstrong Sustainable Infrastructure Capital (HASI): Hannon Armstrong is a REIT that focuses on sustainable infrastructure investments. In addition to investing directly in infrastructure assets, the company has also held positions in other REITs. For instance, as of December 31, 2020, Hannon Armstrong held investments in CoreCivic, Inc. (CXW) and GEO Group, Inc. (GEO), which are both REITs focused on the private prison industry.
- CorEnergy Infrastructure Trust (CORR): CorEnergy Infrastructure Trust is a REIT that primarily invests in energy infrastructure assets. In the past, CorEnergy has held investments in other REITs, such as a position in the mortgage REIT, iStar Inc. (STAR).
- Artis REIT (AX.UN): Artis is a REIT that owns retail, office and industrial property in the United States and Canada. Artis also has investments in Dream Office REIT (D.UN) and First Capital REIT (FCR.UN).
Factors to Consider Before Investing
Before investing in a REIT that has exposure to other REITs, investors should consider the following factors:
Diversification
Investors should analyze how the target REIT’s investments in other REITs contribute to the overall diversification of its portfolio. Ideally, these investments should help mitigate risks associated with any single property type or market segment.
Performance
Investors should review the historical performance of the target REIT and the REITs it invests in to determine if the investment strategy has been successful in generating attractive returns.
Management
Investors should evaluate the quality of the target REIT’s management team and their ability to effectively manage the investments in other REITs.
Risks Involved
Investing in REITs that invest in other REITs may expose investors to additional risks, including:
Market Volatility
The performance of a REIT that invests in other REITs may be more volatile than a REIT that invests solely in direct real estate, as it is subject to the price movements of both the underlying properties and the shares of the other REITs.
Interest Rate Risk
REITs that invest in other REITs may be more susceptible to interest rate risk, particularly if they have significant exposure to mortgage REITs. As interest rates rise, the value of mortgage-backed securities may decline, negatively impacting the performance of mortgage REITs and, consequently, the REITs that invest in them.
Conclusion
In conclusion, REITs can invest in other REITs, provided they adhere to certain legal and regulatory guidelines. This investment strategy can offer benefits such as diversification and access to specialized expertise, but it may also come with potential drawbacks, including duplication of fees and limited control. Investors should carefully consider the diversification, performance, and management of a REIT that invests in other REITs, as well as the associated risks, before making an investment decision.
FAQs
Are there any restrictions on REITs investing in other REITs?
Yes, there may be legal and regulatory restrictions on REITs investing in other REITs, which can vary depending on the jurisdiction in which the REIT operates.
Does investing in a REIT that invests in other REITs expose me to additional risks?
Yes, investing in a REIT that invests in other REITs may expose you to additional risks, such as market volatility and interest rate risk.
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