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Will REITs Drop When Interest Rates Rise?

By Matthew Frankel, CFP® – Sep 24, 2021 at 7:33AM

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Higher interest rates can be a negative for REITs, but there's more to the story.

Rising interest rates can certainly be a negative catalyst for high-dividend investments like real estate investment trusts, but that doesn't mean their stock prices will always go down when rates go up. In this Fool Live video clip, recorded on Sept. 3, Millionacres senior real estate analyst Matt Frankel, CFP, discusses the general relationship between REITs and interest rates and why investors shouldn't stress about it too much.

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Matt Frankel: "How did REITs perform during the last period in which interest rates went up?" REITs, all things being equal, are very sensitive to interest rates. Most dividend stocks are. When I say interest rates, I'm generally referring to not consumer interest rates but the treasury, like the 10-year Treasury yield is a really good benchmark to know.

Generally, when that rate goes up, you will see REITs go down. The reason is income investors tend to expect a risk premium over what they can get from a risk-free investment like a treasury bond, so if a 10-year Treasury is yielding 2%, a REIT might be yielding 5%, if the 10-year Treasury yield jumps up a percentage to 3%, investors are going to expect a similar percentage jump from their REIT dividend yield. Since dividend yield and stock price have an inverse relationship, rising rates lead to rising dividend yields, which generally lead to lower stock prices. Now, that's all things being equal. All things are not always equal. For example, in the COVID pandemic, interest rates plunged, in a normal environment, that would've been a good thing for REITs, but real estate was one of the hardest-hit sectors when the pandemic started. There are a lot of different factors at play and it's not just interest rates. In a normal, boring stock market, interest rates rising are negative for REITs, interest rates declining are positive for REITs.

To answer Ryan's question more specifically, in the latest period when interest rates went up, which was, I want to say about 2018 to 2019 was really when rates started to rise, REITs underperformed significantly, real estate was one of the worst-performing sectors in the market during that period. It still went up, but tech stocks definitely outperformed it, it underperformed the S&P 500 a little bit. 

One thing to keep in mind if you're a REIT investor, it tends to even out over time, they do worse when rates are rising, better when rates are falling, and over time because these are long-term investments, it tends to even out.

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