Get Rich With REITS
Everyone wants to be rich, right? At one point in time, you would have googled “how to get rich quickly”. There are, of course, no fast and easy way to get rich unless you strike the lottery. I have found a few ways to generate a passive income, which one of them is investing in REITs, which I am currently venturing into.
What are REITs?
REIT stands for real estate investment trust, which is a company that holds a portfolio of physical real estates that create income for them through rental. The types of real estate can be either commercial or residential. When you buy into REITs, it is a way to invest in real estate without spending a million on it.
REITs will acquire buildings to rent out to tenants so by buying into them, you can also have a stake in their portfolio of buildings. While some REITs focus on local real estate, there are also some REITs that invest in properties overseas.
They are well-known for their diversification and high dividend yield. However, as the saying goes, high risks, high returns. Hence, high returns also come with their risks like the risk of not being able to rent out the property and the interest rates.
There are 7 main types of REITs in Singapore, namely healthcare, retail, industrial, commercial (office), residential, hospitality and REITs Exchange Traded Fund (ETF).
What do we look out for to buy into a REIT?
Price to book ratio
We can compare the current market price of the REIT to the value of the company’s asset (valued at market price). Price to book ratio is a gauge of how much will the company be worth if it shuts down now and liquidate all its assets. Hence, it is to measure the worst case scenario for our investment.
To get the book value, refer to the balance sheet of the company and take the cost of the total assets minus intangible assets and liabilities. Then, to calculate price to book ratio, take the current share price and divided it by the book value.
Formula: Current Share Price / Book Value
<1 = Undervalued
=1 = Priced the same as book value
>1 = Overvalued
When it is undervalued, we will be buying it at a “discount” whereas if it is overvalued, we will be buying it at a “premium”. It is always better to buy the REIT when there is a sale or at least at the book value.
Weighted average lease to expiry (WALE)
WALE measures the average period of the remaining lease period of all the tenants. Hence, it is measuring how likely is the property going vacant. The lower the WALE, the higher the chance of it going to be vacant.
An example will be there are 3 tenants of a building, occupying 10%, 20% and 45% of rentable area with their lease expiring in 4 years, 8 years and 2 years respectively.
Formula: % of rentable area X period before lease expiry
Tenant 1: 10% X 4 years = 0.4 years
Tenant 2: 20% X 8 years = 1.6 years
Tenant 3: 45% X 2 years = 0.9 years
WALE = 0.4 + 1.6 + 0.9 = 2.9 years
REITs with the highest to lowest WALE: Weighted Average Lease Expiry (WALE) (From Highest to Lowest) – Healthcare, Industrial, Retail, Retail/Office Hybrid, Office, Residential, Hospitality
Most people buy into REITs for the dividends. Dividend is the distribution of company’s profits to its shareholders and can be given in the form of cash payment, stocks or even property. In the case of REITs, it is often given out in the form of cash payments.
The dividend yields are also often correlated to the level of risk for the REIT and can be ranked based on the different types of REITs.
REITs with the highest to lowest dividend yields: Hospitality, Residential, Office, Industrial, Retail/Office Hybrid, Retail, Healthcare
This measures the company’s long term debt as compared to the amount of equity, which is the degree of leverage that a company has. The higher the degree of leverage, the more the company is vulnerable to economic downturns.
Formula: Long term debt / Equity
There is no hard and fast rule to the definition of a good gearing ratio but the below scale is something which I follow:
<10% = lowly geared, will be able to pay off debt well
10%<GR<35% = moderately geared, usually companies without credit rating from Moody’s / S&P/ Fitch needs to have less than 35%
60% = Max gearing ratio
There is a reason why REITs is one of the most popular investment tools in Singapore. Not only you get gains from capital appreciation, the amount of dividend yields is significantly higher than most other investment tools, especially comparing the level of risks you are undertaking.