Alternative Investments

In some instances, if you invest in something that is not a stock, bond or cash, you may be investing in what is considered an alternative investment. Things such as options, futures, commodities and non-publicly traded REITs are all considered alternative investments.

At this time, banks have tightened up lending criteria. But companies desiring to grow still seek alternative ways to raise capital, and one of them is through a financial instrument known as REITs, or real estate investment trusts. Many people love real estate but have never owned a rental house. Several people have, and have made a lot of money being landlords. One reason they are successful is because they have the right temperament for it. Many others confess that they would not make good landlords because of “the three T’s” — toilets, tenants and trash.  A lot of people count themselves out of owning rental properties because they’re not interested in any investment that they have to clean, repair or paint. Others also despise the idea of having to go through that awkward business of collecting money from tardy rent payers. Too many headaches.

By being part of non-publicly traded REITs, you indirectly own real estate all over the country, in the same way you own a part of your local Starbucks if you own shares in the company. The benefit is that someone else cares for all the tedium that goes with property or business ownership.

There are two types of REITs, publicly traded and non-publicly traded. Publicly traded REITs are listed on a stock exchange and have a ticker symbol. These REITs’ share prices are subject to market volatility. Non-publicly traded REITs are not listed on a publicly traded exchange and their share price is set by the company; therefore, it does not fluctuate.

Non-publicly traded REITs are required to pay out 90% of taxable income to shareholders. This means that it’s common to see a relatively consistent flow of distributions (you can think dividends) paid out to shareholders during the five, six or seven years they are private before going public. It is important to note that because non-publicly traded REITs are not traded in the open market, there is limited liquidity, but it is common for the company to purchase back shares from shareholders from time to time.

The real estate segment of the economy runs in cycles. In certain interest rate environments, it is not a good time to sell residential real estate, but it is a good time to buy it. It’s important to understand the interest rate environment when considering an investment into these publicly or non-publicly traded REITs.

Non-publicly traded REITs are often separated into funds based on the types of real estate owned. For example, there could be a REIT that completely focuses on owning grocery stores, or another that is focused on retail stores like Petco, Dollar Tree or The Home Depot.

For this reason, you can invest in the types of real estate that are attractive at the time based on environmental and demographic factors, such as buildings designed with an aging population in mind — medical and dental offices, hospitals, assisted living facilities and the like.

With REITs, just like any other investment, you have to think of the source of income as a factor for long-time profitability. In the business environment, that income may come in the form of business to business sales, or business to consumer sales. In the case of REITs, income comes in the form of rent paid by tenants.

So think about it, who are my tenants in the case of a hospital, dental office or medical office based REIT? Folks with high credit ratings — doctors and dentists. These tenants also like to sign long-term leases with built-in step ups in rent each year.

By owning non-publicly traded REITs, because of their requirement to distribute 90% of taxable income to shareholders, you can expect to get a distribution check nearly every month and you can either take that and use it for living expenses or reinvest and buy more shares at a discounted price.

Although this distribution check is not guaranteed, the legal requirements of the non-publicly traded REIT to distribute earnings provides for more consistency than a corporation’s dividend payment, which are not required of the corporation and are done on a voluntary and revocable basis.

Non-publicly traded REITs have no correlation with stocks, meaning they aren’t publicly traded. They have a track record of paying out a 6% distribution and are required to eventually go public, which means their consistent share price has the opportunity to see appreciation on the backside.

With this section of your financial house, it is important to understand the risks. These are, after all, securities — the part of the financial house that is not guaranteed. Remember what happened in the Enron collapse? When that corporation went under, there were people in line to be paid from the liquidation. The first to be paid was Uncle Sam. Then who? That’s right! The landlord! Those companies that owned the real estate investment trusts. Enron, after all, leased property. Guess how much was paid after the rent was paid and Uncle Sam got his money? Nothing. Nothing for the stockholders. They were at the bottom of the list.

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