Investments in high dividend REITs can be a way of generating income through real estate investing without all of the hassles of direct real estate ownership

Real estate investment trusts (REITs) invest in income-producing real estate, such as office buildings, shopping centres and hotels. That’s a segment of the market that is difficult for most investors to access through direct ownership of property. Moreover, real estate investment trusts save you the cost, work and risk of owning investment property yourself.

We continue to believe that ownership of a primary residence is all the real estate exposure most investors need. However, if you want to add to your real estate holdings, one good way to do it is through REITs or high dividend REITs.

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Use these nine “investment inputs” to find the best high dividend/distribution REITs 

Keep “investment inputs” in mind when judging a REIT. In evaluating investments, many investors focus on what we’d call “investment outputs,” such as earnings, dividends, cash flow, return on equity, sales growth and so on. These are all important, of course, but you shouldn’t focus on them to the exclusion of what you might call “investment inputs.”

Here’s a list of investment inputs that we look at before recommending high dividend/distribution REITs – whether individually or in index funds that hold REITs: 

1. Do you have any doubts about the integrity of the insiders? If so, stay out.
2. Did the REIT buy its assets in the midst of a recent boom, or has it owned them for some time? Bidding for assets in the midst of a boom tends to be risky, since it can lead to unpleasant investment surprises.
3. How much debt is the REIT carrying? You need to gauge the debt in relation to all assets, including hidden assets and those that appear on the balance sheet. Too much debt can lead to a steeper downturn in distributions when the business hits a snag.
4. Is the REIT dominant or at least prominent in its industry? If the answer is no, risk is higher.
5. How much of its cash flow is it paying out? Paying too much leaves it vulnerable to a cut in distributions. This can have a devastating effect on the unit price.
6. Has its cash flow and profitability shown acceptable performance in relation to the rest of its industry? If it can’t make money when business is good, when can it make money?
7. Are there any special factors worth considering? With REITs, you need to look at the quality of tenants, length of leases and the possibility of improving the use or expanding the occupancy of existing properties.
8. Is the REIT the subject of a lot of favourable broker and media attention? If so, investor expectations may be excessively high, and that leaves the trust vulnerable to a steep downturn on any hint of bad news.
9. Is the current and prospective yield high enough to justify the risk? 

Recognize that a REIT index fund can cut your investment risk—but not completely

REITs are usually publicly traded (although they can be private), and investors like REITs because they typically have a high dividend/distribution yield, based on the requirement that they flow through at least 90% of their taxable income to unit holders.

Canadian high dividend REITs must be a corporation that’s taxable, and follow all the rules of being a corporation. They must invest 75% or more of their total assets in real estate and make at least 75% of their gross income from their properties, including rent, financing and sales. Like most stocks that are publicly traded, they adhere to the rules of exchanges, and require no less than 100 shareholders.

Real estate investment trusts can be lower risk, because they invest in income-producing real estate such as office towers, shopping malls or hotels. Even so, real estate still has risks—its value rises and falls with changes in the economy, interest rates and occupancy levels.

Understand the biggest risk of investments with high dividend yield so you don’t make an investing mistake

When looking for investments with high dividend yields, you should avoid the temptation of seeking out high dividend REITs with the highest yields—simply because they have above-average yields.

That’s because a high yield may signal danger rather than a bargain if it reflects widespread investor skepticism that a company can keep paying its current dividend.

Dividend cuts will always undermine investor confidence, and can quickly push down a company’s stock price.

Above all, for a true measure of stability, focus on stocks or REITs with a high dividend/distribution yield that has ideally been maintained or raised during economic or stock-market downturns. Generally, these firms leave themselves enough room to handle periods of earnings volatility. By continually rewarding investors, and retaining enough cash to finance their businesses, they also provide an attractive mix of safety, income and growth.

A track record of dividend payments is a strong sign of reliability and an indication that investing in the stock will be profitable for you in the future.

Use our three-part Successful Investor approach to dictate all of your investment decisions, including the purchase of high dividend REITs

1. Invest mainly in well-established, mostly dividend-paying companies;
2. Spread your money out across most if not all of the five main economic sectors;
3. Downplay or avoid stocks in the broker/media limelight.

Some investors target private high dividend REITs over publicly traded ones. Do you agree with this strategy, even though private REITS may be lacking analyst scrutiny?

REITs can offer steady dividends. Do you invest in REITS, or do you feel like other dividend stocks offer better returns?