Different types of REITs are available. For example, equity REITs invest in and own commercial properties, such as hotels and shopping centers, while mortgage REITs, as the name suggests, own and invest in property mortgages. Is one form of REIT better than another? There’s no simple answer. On the one hand, mortgage REITs are considered riskier than equity REITs. However, mortgage REITs often pay quite large dividends, although the payout can be inconsistent. (Like all REITs, mortgage REITs must pay 90% of their taxable income to investors in the form of dividends. Due to this requirement, REITs generally need to raise capital to finance their growth plans, and this necessity can affect their share prices.)
Other factors, such as changing interest rates, will affect the value of mortgage and equity REITs differently. Specifically, rising interest rates will likely cause the market value of the property mortgages inside mortgage REITs to fall, whereas equity REITs, which own actual buildings, might actually benefit if the Federal Reserve raises interest rates, as such a move would indicate a strong economy, more jobs and greater demand for office space. In the short term, though, even equity REITs can react negatively to an interest-rate increase. But over the long term, this movement can be offset by the benefits of earnings and dividend growth driven by a growing economy.
Clearly, there’s much to think about when considering potential income-producing options such as bonds, dividend-paying stocks and REITs. Ultimately, you will need to weigh the merits and risks of these investments – including interest rate risk, credit risk and market risk – and determine which of them, or which combination of them, are most appropriate for your needs.