For investors looking to add real estate exposure, buying another apartment isn’t the only option. REITs offer a way to invest in income-generating commercial property without owning or managing a physical asset. However, investors should look beyond headline yields and assess total returns, balance-sheet strength, occupancy, growth prospects and interest-rate risks, says Ramesh Nair, MD and CEO of Mindspace REIT.

Speaking at the ET Alpha Wealth Summit 2.0, Nair said investors should view REITs as part of their overall asset allocation along with equities, bonds, gold and mutual funds, rather than as a substitute for owning a home or investing in residential property. He also cautioned against extrapolating recent strong returns, describing REITs as a moderate-risk, moderate-return investment.

A common mistake, Nair said, is to evaluate REITs solely on their distribution yield. Yields across REITs were around 5.5% to 7% at the time of the discussion, but yield alone does not capture the full investment outcome.

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Investors should consider both the income received and the appreciation in the market price of their units. A REIT’s total return reflects both components, making it important to assess overall performance rather than compare yields in isolation.

Citing historical returns for India’s six listed REITs, Nair said an investment made a year earlier would have delivered about 15.5%, while investments made two and three years earlier generated annualised returns of around 24% and 22%, respectively. An investment made when the first REIT listed in 2019 would have generated a return of around 16.1%, he said. Nair stressed that these were historical returns and not a promise of future performance.

When assessing a REIT, Nair said investors should examine its track record, growth prospects, balance sheet, governance standards, sponsor quality and management team.

Indian households have traditionally viewed real estate as a long-term store of wealth, often buying residential property with the expectation that prices will rise over time. However, physical property can be difficult to sell quickly, particularly when investors need only part of the capital for an emergency or major expense.

Nair highlighted this liquidity constraint as one reason to consider listed real estate as part of a portfolio. Unlike a residential apartment, REIT units can be bought and sold on the market, subject to liquidity and prevailing prices.

He also cautioned against assuming residential property prices will always appreciate. Citing his observations of Mumbai’s residential market between 2013 and 2021, he said price appreciation during that period was limited. While residential property performed better from 2021 onwards, investors should distinguish between buying a home to live in and investing in property primarily for returns.

For investors who already own a home, the question is therefore not necessarily whether to buy more property, but how much real estate exposure makes sense within the overall portfolio.

The outlook for REITs is closely linked to the performance of their underlying properties, including occupancy, rental growth and demand for office space.

Nair said global capability centres (GCCs) had become an important source of demand for office real estate. He cited his portfolio as an example, saying 53% comprised GCCs, alongside exposure to data centres and hotels.

He also described how the office sector had navigated challenges including the Covid-19 pandemic, work-from-home arrangements, geopolitical uncertainty and changing interest-rate conditions. Despite these disruptions, he said the sector continued to attract demand.

For investors, the key question is whether a REIT can sustain occupancy and rental income as the business environment changes. A strong underlying property portfolio may support distributions and growth, but investors should also assess tenant quality and concentration, lease terms and the REIT’s ability to attract new occupiers.

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Interest rates are a major risk for REIT investors as they influence borrowing costs, refinancing expenses and the relative attractiveness of income-generating assets.

Nair said fluctuating rates had made financing conditions more challenging. A portion of the portfolio’s borrowings was fixed-rate debt, limiting the immediate impact of rate changes. However, substantial annual refinancing requirements meant future borrowing costs remained an important variable.

Investors should therefore assess not just a REIT’s debt levels, but also its maturity schedule, fixed- and floating-rate mix and potential refinancing costs.

Higher borrowing costs can weigh on earnings and distributions, while changes in market rates can also affect the prices investors are willing to pay for income-generating securities.

AI’s potential impact on office demand is another uncertainty for investors. If companies reduce workforce requirements or office footprints, property owners could face pressure on occupancy and rental growth.

Nair said the direct impact on the office portfolio he discussed had so far been limited. He cited one tenant occupying about 20,000 square feet that wanted to give up space after AI disrupted its business, against a portfolio of around 46 million square feet. He also referred to commentary from global real estate companies suggesting that AI had not yet materially affected the office sector.

However, he said the longer-term impact remained uncertain. Investors should therefore monitor changes in leasing demand, tenant decisions and space utilisation as evidence emerges, rather than assume AI is either an immediate threat or no threat at all.

Nair said India’s REIT market remained relatively small compared with more mature markets. He put the US REIT market at around $2 trillion, while India’s six REITs had a combined market capitalisation of approximately Rs 2.15 lakh crore at the time of the discussion. He said the Indian market could expand as more income-generating real estate assets are brought into the REIT structure.

Potential areas of expansion include warehousing, industrial properties, hotels, residential rentals and student housing. He also pointed to government-linked assets as a potential opportunity, given the real estate holdings of public-sector entities and government bodies.

A broader REIT market could give investors more ways to diversify across property segments, although each category would carry risks related to occupancy, tenant demand, operating costs and financing.

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Nair’s central message was that REITs should be considered as part of an investor’s broader asset allocation, with expectations aligned with the asset class’s risks and return potential.

He said investors comfortable with moderate risk and seeking a combination of income and potential capital appreciation could consider REITs as part of a diversified portfolio. He also cited a return range of around 13% to 15% as an expectation some investors may find attractive over time, while cautioning that the unusually strong returns of recent years may not continue indefinitely.

That range should not be viewed as a guaranteed return or forecast for every REIT. Actual performance will depend on factors including the purchase price, distributions, property-level growth, interest rates and broader market conditions.

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)

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