When you think of downtown Manhattan, the thought of people walking around, trash in the streets, and horns blaring on the road should enter your mind. And then there are the inescapable skyscrapers that line the streets of most metropolitan cities but none like Manhattan. Each of those skyscrapers houses several different businesses; one company in a skyscraper does not own the whole building. Instead, those various businesses are paying rent. They have a landlord just like the people who pass by those gargantuan buildings.
It’s likely the owner is a Real Estate Investment Trusts (REITs) that investors can purchase shares of to add to their investing portfolios. Office REITs, in particular, specialize in owning buildings that their tenants (various businesses) pay rent to use the space. According to Reit.com, the sector as a whole this past May boasts a 15.09% year to date return alongside a sector dividend yield of 3.42%. If you’re trying to wrap your head around what these numbers actually mean then keep reading. You’re about to get a crash course on crucial information you want to consider before purchasing any office REITs.
What is an Office REITs
An office REIT is the business of owning, managing, developing, operating, and/or leasing office buildings. They find key areas in locations that are growing and thriving with multiple businesses. Usually, if a city is growing, it is due to the local workforce, and their employers need some office space. Dallas and Atlanta are excellent examples of cities where businesses have moved headquarters or satellite offices for employees. The typical tenant includes any business in need of office space such as banks or investment, technology, research and retail companies.
The Benefits
Consistent Dividend Income
Americans have been working inside an office for decades; it has become a part of the norm. But the norm is evolving currently as more people than ever are working from home or using a hybrid system utilizing both traditional and home offices. Business owners understand the need for an office space and will pay for a space as long as it presents as a necessity for success.
Yes, Microsoft started in a garage, but now they are in offices across the globe in 96 other countries. The majority of office leases are for the long-term and typically range from anywhere between 5-20 years, which equals consistent income. Remember that predictable income is excellent income in your pockets!
Tax Benefits
REITs are counted in a “pass-through” business category, meaning the income is not taxed on a corporate level but rather an individual level. For example, Costco will pay dividends to their shareholders, but it is taxed twice. First, Costco pays taxes on the income, and then you, as the receiver of dividend income, have to pay taxes during tax season. In REITs, they do not pay corporate taxes; hence only the individual pays taxes on the dividend income. Sometimes, it’s not about how much you make but how much you keep at the end of the day.
The Risks
Interest Rates
REITs, in general, are sensitive to interest rates due to the fact that they own real estate, which comes with long-term loans. The higher the interest rates, the more interest payments a REIT has to pay before profits. Luckily, interest rates are still low compared to what they have been historically, but an increase is a considerable risk not just for REITs but also for other large companies. Potential investors should pay attention to the Federal Open Market Committee (FOMC), which consists of seven governors of the Federal Reserve Board and five Federal Reserve Bank presidents.
The Country’s Economy
A thriving company such as Facebook or Google needs offices for their employees to work, collaborate and help the company turn a profit. On the flip side, if a company loses revenue to the point they are out of business, it no longer has any use for an office. Therefore, a valuable tenant is lost and needs to be replaced. During a bad economy, businesses going bankrupt often happens, and other companies cut spending in hopes of weathering a lousy economy. This all equals fewer tenants for office REITs, which have a goal of 100% tenant capacity. If the economy is in a recession, the chances of a company taking on an office lease become slimmer, which leads to less rental income for office REITs.
Working From Home Trend
Remember in 2020 how COVID-19 literally changed the world and caused countries to shut down? It was unequivocally a memorable year for several reasons. Companies across the globe had to adapt work-from-home models for employees to continue daily operations, and, for the majority of companies, they didn’t suffer! The change was good for employees and employers; however, that wasn’t necessarily true for the future of office REITs. Tech companies are leading the charge in allowing employees to work from home indefinitely, resulting in less office use. The future of working in the office is still unknown. It isn’t easy to gauge how long the work-from-home trend will continue. On the one hand, the movement could end as the number of employees returning to the office increases. On the other hand, the remote work trend may disappear but will most likely be replaced by a hybrid work model. Due to the uncertainty of the pandemic, companies have adopted this style for their employees. This will inevitably affect income for REITs. Only time will tell.
Top Three Office REITs
The top REITs based on their market cap are the following:
Boston Properties is the largest publicly-held developer and owner of Class A office properties in the United States and is concentrated in five markets: Boston, Los Angeles, New York, San Francisco and Washington, DC. They own 196 properties with 90% currently leased to tenants who pay on time. The company has a large market cap of $21.3 billion; its stock symbol is BXP. At the start of July 2021, the REIT boasted an impressive 3.46% dividend yield alongside a consistent dividend payout throughout the years. The 5-year dividend average is $3.40.
The second-largest office REIT in this trio is Alexandria Real Estate Equities under the ticker symbol ARE. Alexandria began as a garage startup with a vision to create a new kind of real estate company uniquely focused on serving the life science industry. According to MorningStar, the dividend yield in early July 2021 sits at 2.40%, and the 5-year average dividend payout is $3.73. The company’s portfolio focuses on Class A properties clustered in urban life science, agtech and technology campuses that provide tenants with highly dynamic and collaborative environments. Key locations include Greater Boston, the San Francisco Bay Area, New York City, San Diego, Seattle, Maryland and the Research Triangle.
The last REIT in this group is SL Green Realty trading underneath the ticker symbol SLG, and they have a $7.4 billion market cap. This REIT is Manhattan’s largest office landlord, and is a fully integrated real estate investment trust, or REIT, that is focused primarily on acquiring, managing and maximizing the value of Manhattan commercial properties. Currently, they own 84 buildings that come to 37.8 million square feet of space. Their reported July 2021 dividend yield is 4.72% and the 5-year dividend average payout is $3.59.
Bottom Line
Investors should consider adding some real estate exposure to help diversify for a healthy portfolio. Office REITs are a good solution, but caution should be used as the country enters into unknown waters as more companies adopt working-from-home plans. The potential dividend income will help boost any portfolio, especially since leases can last up to several years. Happy investing, neighbors!
Andre Albritton, a graduate of Florida A&M University, has become a nationally recognized investing nerd who trains people on building wealth through the stock market & REITs. He is the founder of The Millennials Next Door, a community dedicated to millennials building wealth to create financial freedom. In addition, Andre created the Flavor Podcast focused on the many different flavors of investing within stocks, real estate and entrepreneurship. Andre is now a household name for ambitious millennials who are ready to reach for and redefine wealth.
Office REITs for Beginners appeared on Wealth Noir.
