REITs vs Direct Real Estate Investing: Which is Better?

Image Source: Unsplash
 

For investors interested in real estate, a common question is whether it's better to invest in real estate investment trusts (REITs) or buy rental properties and other real estate directly. Both options have their own pros and cons to consider in terms of effort required, risk, diversification, and returns.

 

Effort and Hassle

One of the biggest appeals of REIT investing is the passive nature and low effort compared to being a direct landlord. With publicly traded REITs, you can gain exposure to real estate by simply buying shares, without having to identify, purchase, and manage properties yourself. This removes the responsibility of issues like rental management, maintenance, repairs, tenant screening, vacancies, and more.  

Meanwhile, direct real estate investing involves significant hands-on work, but gives you more control. You'll deal with all facets of owning investment properties, from working with a real estate agent, a mortgage lender, contractors for rehabbing and renting out units etc…and of course the ongoing property management. There is greater effort and responsibility, but for some investors, the hands-on approach is worth it.

 

Risk Profile  

In terms of risk, REITs can provide instant diversification across many types of properties and geographic regions. This spreads out your risk much more than buying just one or two rental units or other properties directly. With direct investing, you also face risks concentrating too much in one market or property type.

However, directly owned real estate can also allow more control over the asset itself. You can add value through fixes, upgrades, and management changes to potentially boost returns. So there are risk/reward tradeoffs to consider with each approach.

 

Types of Real Estate Exposure

REITs provide exposure to major commercial real estate sectors like apartments, offices, malls, warehouses, data centers, cell towers, and more. Most individual real estate investors focus on residential rentals instead. So REITs allow easier access to commercial real estate at scale. The type of real estate exposure may factor into your decision.

 

Expected Returns  

Historically, direct rental real estate has offered higher potential returns compared to REIT investing, but also requires much more effort. One study shows average annual returns of 8.5% for rental properties compared to 7% for equity REIT investing. However, this higher return assumes successful property selection and management. With REITs, you forego some return for the ease and diversification they provide.

Ultimately, there are good arguments on both sides. REIT investing provides passive exposure to commercial real estate with strong diversification. Meanwhile, direct real estate investing takes more work but offers higher control and cash flow potential. The choice comes down to your personal preferences, skills, and portfolio strategy. Balancing both real estate stocks and direct property can also make sense depending on your goals.