Ron Heller: “Since I don’t have the resources to buy office buildings and shopping malls, I’m thinking of putting about 10% of my portfolio in REITs. Should I try to pick a couple of good REITs, or go with the Vanguard REIT Index fund?”
Either is good. The index-fund route is safer, obviously, because you spread your risk over far more REITs. What you lose buying is Vanguard’s small annual expense charge each year — about a quarter of a percentage point.
(You also lose “tax control” — the ability to sell individual losers for a tax loss while using individual winners for your charitable giving. But tax control doesn’t mean much in this case. REITs tend to move fairly modestly, and together, in the opposite direction of interest rates. With a “high-tech” fund, by contrast, one component might triple in a month while another drops 80%. There, tax-control can be quite useful.)
Because REITs are largely income vehicles, and most or all of that income is taxable as ordinary income, they are particularly good in a tax-deferred retirement account.
There are many kinds of REITs (office buildings, hotels, shopping malls, residential, mixed; equity REITs that own properties, mortgage REITs that write mortgages on properties; regional REITs, geographically diversified REITs).
By and large, they should be sensibly valued by the marketplace. I.e., some have better managements than others, but that is reflected in the stock prices. There is the (slim) risk the Internet will bankrupt all physical retail stores and, thus, mall owners, but that is reflected in the stock prices. And so on.
I own two REITs. One, Vornado (VNO), is generally considered to have great management and good growth prospects, so it yields “only” 5.4% — $1.92 dividend on, currently, a $36 or so stock price. The other, BF Saul (BFS), is generally considered to have mediocre management and to entail more risk, with less growth in store, so it yields 9.5%.
REITs will tank if long-term interest rates rise (and then recover if they fall). They would fare badly in a real estate slump (whether recession- or overbuilding- or Internet-related). Individual REITs could do really badly because of poor management or factors beyond the control of even a good management. But for 10% of your portfolio — why not? Vanguard’s REIT Index Fund symbol is VGSIX.
