Why I Quit Buying Rental Properties To Buy REITs Instead - Part 2 (2024)

Recently, I explained why I quit buying rental properties to buy REITs instead. You can read the whole article by clicking here, but to put it shortly:

REITs offer higher returns with lower risk.

REITs are a lot more rewarding because:

• They enjoy significant economies of scale.
• They have access to public markets to raise capital and grow faster.
• They will often develop their own properties, earning higher returns.
• They also profit from other related businesses like property management.
• They have the best talent working for them.
• Their valuable relationships help to get off-market deals and sign tenants.
• They often skip brokerage fees thanks to sale-and-leasebacks.
• They also let you, the shareholder, invest without paying transactions costs.
• They have access to more capital sources to boost returns (e.g., preferred).
• They give you valuable tax benefits that beat even those of rentals.
• They let you use your time to work your main job and advance in your career, which will yield a lot more money than working on some rentals.

REITs are also a lot safer because:

• They are public and liquid.
• They are well diversified.
• They are professionally managed.
• They typically have conservative balance sheets.
• They are highly scrutinized by analysts and the SEC.
• They deal with all operational issues, protecting you from angry tenants.
• They sign on all the loans, protecting your credit score if things go south.
• They completely shield you from personal liability and tax issues.

This is not just my opinion, but the result of extensive studies that compare REITs to private real estate. I add a few of them below:

Source

Source

To my surprise, this article was read by nearly 100,000 people and it led to a lot of interesting discussions in the comment section.

I noticed that two specific questions kept coming up:

• What are exceptional cases when I would favor a rental over REITs?
• What are my thoughts on real estate crowdfunding platforms?

Because these are important questions that cannot be answered in a single paragraph, I decided to write a follow-up article to share my thoughts on them.

We start with the first question:

What are exceptional cases when I would favor a rental over REITs?

Here, I want to put an emphasis on the word "exceptional."

In the vast majority of cases, I think that investors should favor REITs over rentals, but exceptions exist, and that's what we are discussing here.

I have personally invested in private real estate in the past and would consider it again under five different scenarios:

• Scenario #1 - REITs become overpriced: Today, a lot of REITs are a lot cheaper than the real estate they own. But this could change in the future, and if REITs become overvalued, this would be a good time to look for private real estate opportunities. We are always comparing the valuations of REITs vs. Private real estate as we evaluate the risk-to-reward of one against the other.

• Scenario #2 - Home-ownership: Buying real estate is not always just a financial decision. In fact, there are many non-financial benefits to owning your home and you cannot live inside your REITs. Owning your home will give you control over your residence. You won't have to worry about a landlord kicking you out, jacking up rents or not maintaining the property properly. It will also give you the freedom to pick and choose how you furnish and decorate your home to match your own taste. This can give great joy and fulfillment that's worth the money, even if you could have earned better returns investing in REITs.

• Scenario #3 - Foreign real estate: Today, REITs exist in a lot of countries, but not all of them. If you want to invest in a country that does not have REITs, then you are left with no other option than buying private real estate. A good example that I have previously discussed is Estonia. I think that it's set to become the "Luxembourg of Northern Europe" where wealthy families and entrepreneurs move to lower their taxes and benefit from the best business environment in Europe. Prices are rising rapidly, but they're still well below the prices of Finland, just 30 miles north. I recently bought a property in Estonia because there aren't any good REITs in this market.

• Scenario #4 - Specialty assets or strategies: Today, REITs invest in most property sectors, but not all of them. Moreover, some property sectors only have 1-2 REITs and if those aren't attractive, you may be left with no investment opportunities. In the past, I have explained that because there are only two farmland REITs, and each presents some issues, it may make sense to invest in farmland using a crowdfunding platform (more on that below).

• Scenario #5 - Exceptional deal: Finally, if you're truly getting a bargain on a rental property, then perhaps, its risk-to-reward may beat that of REITs. But you need to remember that everyone thinks they are getting a bargain, when in reality, most deals are average at best. Also, you can get bargains in the REIT sector as well, so you need to compare your rental to an undervalued REIT to make it a fair comparison.

Once again, I want to remind you that these are only exceptional cases. Today, about 90% of my real estate allocation is in REITs and the only remaining 10% is in private real estate.

Then we go to the second question:

What are my thoughts on real estate crowdfunding platforms?

For those who are not familiar with crowdfunding platforms, they're websites that pool investor's capital together to make collective real estate investments. Some of the most popular crowdfunding sites include Fundrise, CrowdStreet, and RealtyMogul.

My thoughts on crowdfunding vary heavily from one platform to another, but generally speaking, I prefer REITs for the same reasons as I favor REITs over rentals. REITs will most often generate higher returns with lower risk and since REITs today invest in nearly every property sector, I often struggle to see the appeal of crowdfunding:

• Office. Example: Boston Properties (BXP)
• Industrial. Example: Prologis (PLD)
• Apartment. Example: Mid-America (MAA)
• Retail. Example: Simon Property Group (SPG)
• Hotel. Example: Host Hotels (HST)
• Net Lease. Example: STORE Capital (STOR)
• Senior housing. Example: Ventas (VTR)
• Skilled nursing. Example: Omega Healthcare (OHI)
• Hospital. Example: Medical Properties Trust (MPW)
• Medical Office. Example: Physicians Realty Trust (DOC)
• Manufactured Housing. Example: Sun Communities (SUI)
• Single-Family Rental. Example: Invitation Homes (INVH)
• Student Housing. Example: American Campus Communities (ACC)
• Self Storage. Example: Public Storage (PSA)
• Timberland. Example: Weyerhaeuser (WY)
• Farmland. Example: Gladstone Land (LAND)
• Billboard. Example: Lamar (LAMR)
• Data Centers. Example: Digital Realty (DLR)
• Infrastructure. Example: American Tower (AMT)
• Ground Lease. Example: Safehold (SAFE)

But there is one exception!

Some property sectors don't have any REITs or only a few REITs. In these cases, crowdfunding makes a lot of sense because they're truly filling a void for investors.

Here are two examples that I personally use:

EstateGuru is a crowdfunding platform that lets you invest in private loans that are backed by real estate. These loans commonly have a ~10% interest rate, a short 12-24 month term, and a low ~60% LTV. They get such attractive terms because they focus on emerging Eurozone countries like Estonia and Latvia that don't enjoy the same ease of access to capital. There are no REITs that offer such exposure and therefore, there's a clear void for crowdfunding platforms to fill. I have invested in these loans for three years now, and they have consistently earned me ~10% per year, even through the pandemic. I use these loans to diversify my portfolio and boost my average yield. I have written a blogpost on EstateGuru that you can read by clicking here.

Source: EstateGuru

FarmTogether is a crowdfunding platform that lets you invest in high-yielding farmland opportunities. Farmland is a fantastic asset class, but there are today only two farmland REITs and unfortunately, they both suffer serious issues. The first one, Gladstone Land (LAND), is priced at a 70% premium to NAV. The second one, Farmland Partners (FPI), can be attractive if you have a high-risk tolerance, but it's not suited for investors who want exposure to conservative income-producing farmland investments. That's because it is dealing with legal troubles that are draining its cash flow, leaving only a 1.7% yield for shareholders, and it is also in the asset management business, which is a lot riskier than simply owning farmland.

As such, FarmTogether is filling a void by letting you invest in high-quality farmland without overpaying (LAND's issue) and with much greater yield (FPI's issue):

Source: FarmTogether

So in select cases, crowdfunding makes a lot of sense and I myself use some of these platforms.

Bottom line

I strongly believe that the bulk of your real estate allocation should be invested in publicly listed REITs (VNQ). They offer better risk-adjusted returns than rental properties and crowdfunding sites in most cases.

However, I recognize that it does not have to be just one or the other. In fact, by adding some private properties (via rentals or crowdfunding) to a REIT portfolio, you may boost its risk-to-reward and that's what I am doing with my own portfolio.

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