REITs vs. Stocks: What The Data Has To Say

Historically, Stocks Have Consistently Overperformed REITs 

Real estate vs. stock investing is an argument as old as well… investing itself. This leads many investors to turn to REITs as a way to get exposure to real estate within a stock portfolio without actually having to own anything themselves. However, despite what The Motley Fool will tell you, REITs may not be the best investment-- and here’s why.

First, while there are many ways to interpret information, the basic data doesn’t lie. As an asset class over the last 30 years, REITs have significantly underperformed stocks and proven to be significantly more volatile. 

The below data from Portfolio Visualizer shows that from 1994 to year-end 2024 (a 30-year period), REITs provided a compounded return of 8.46%, while U.S. large-cap stocks provided a compounded return of 10.48%. This means that if you invested $10,000 in REITs in 1994, you’d have about $124,000 today, while if you had invested in U.S. large-cap stocks, you’d have about $220,000. 

That’s a stunning 40% smaller portfolio return. Of course, this data looks at U.S. stocks and REITs as broad asset classes, not as individual securities, so it’s not exact, but it does show that REITs, in general, do perform significantly worse than stocks. 

REIT Asset Class Performance (1994 to Dec. 2024) 

Data courtesy of Portfolio Visualizer. 

Why REITs Perform Worse Than Stocks

REITs likely perform worse than stocks for a variety of reasons. Real estate is a semi-passive enterprise, and there’s only so much rent one can collect, no matter how great the portfolio of properties a REIT owns. In contrast, companies like Google, Apple, ExxonMobile, or Johnson & Johnson are actively managed businesses, which means their potential for cash flow growth (and hence, stock valuation) is, while not unlimited, significantly higher than that of a real estate portfolio. 

Second, REITs are extremely sensitive to the underlying financial system and are particularly sensitive to interest rates. This is because almost all equity REITs use leverage (i.e., loans) to purchase properties to increase overall return. Therefore, when interest rates rise or borrowing slows for some reason (such as the 2008 real estate crash), REITs often significantly decline in value. When interest rates rise, it becomes more expensive for REITs to borrow money to purchase properties. We should note that some REITs are not equity REITs (i.e., they don’t own property) but instead mortgage REITs, meaning they own mortgage loans secured by commercial or residential property. 

However, mortgage REITs are still sensitive to interest rates and, just like equity REITs, can drop in price significantly when interest rates rise (making it harder for them to find qualified borrowers) or when real estate prices drop, which could leave some borrowers underwater (meaning that they owe more than the property is worth), especially if the mortgage REIT is highly levered (meaning that they issued loans worth a significant amount of the underlying property’s value). 

This means that, in the writer’s opinion, REITs don’t offer the best of real estate and stocks; they often offer both the worst of real estate and the worst of stocks.

REIT Volatility Compared To Stocks

In addition to performing worse than stocks over a 30-year period, REITs have often experienced higher drawdowns (extended losses), particularly in 2008. While 2008 was a unique combination of factors that is unlikely to happen again, especially due to the financial reforms instituted in the Dodd-Frank Act, it still shows how REITs are highly vulnerable to the intricacies of the financial system. 

The below data from Portfolio Visualizer shows the respective drawdowns of REITs and large-cap U.S. stocks from 1994 to mid-2024, with stocks declining about 51% in 2008 and REITs declining a staggering 68% (a 34% difference). 

As of mid-2024, REITs were still down more than 14% from their 2021 height, while the U.S. stock market had reached new highs. 

Data courtesy of Portfolio Visualizer. 

Trouble In The Real Estate Market Spells Trouble For REITs

Another real estate (and hence REIT) market risk measure is reduced real estate lending. Less lending generally means higher interest rates, which makes it harder and more expensive for REITs to acquire and refinance properties. 

According to the Mortgage Bankers Association (MBA), “total commercial real estate (CRE) mortgage borrowing and lending is estimated to have totaled $429 billion in 2023, a 47 percent decrease from the $816 billion in 2022, and a 52 percent decrease from the record $891 billion in 2021.”

Some of this is directly due to higher interest rates set by the Fed, but some of it is also due to structural instabilities in the real estate (and hence the real estate lending market), particularly due to the decline of office buildings (and to a much lesser extent, malls) in the COVID and post-COVID work-from-home trend, though we’ve seen a slight reversal of this over the last year.

This means that many lenders and banks own loans on now partially occupied office buildings that the borrowers will never be able to repay (due to significantly lower rents). Lenders with bad loans on their books reduce their ability to offer new loans at desirable terms, even for strong borrowers who wish to take out loans on quality properties, such as large, high-quality multifamily developments in strong markets. And this means that REIT prices aren’t likely to recover in the near-term (and may not perform well in the long-term either). 

When REITS Have Outperformed Stocks 

While REITs generally have underperformed stocks, every dog has its day, and, in some years, REITs have indeed outperformed stocks, in some cases, by a long mile. However, for long-term investors (think 10, 20, 30-year timelines and beyond), this isn’t a saving grace. 

The below chart from Portfolio Visualizer shows that REITs significantly outperformed REITs from 2000-2006 during the years leading up to the 2008 real estate crash. This was mainly the result of overinflated real estate prices and extremely lax real estate lending standards, which are unlikely to happen again. 

REITs also outperformed in 2021, though they performed significantly worse in 2022, 2023, and 2024. 

Data courtesy of Portfolio Visualizer. 

The Tax Implications of REITs

In addition to significantly subpar performance, in many cases, REITs have significant tax disadvantages when compared to stocks. 

This is because, according to the SEC, “To qualify as a REIT, a company must… distribute at least 90 percent of its taxable income to shareholders annually in the form of dividends.” 

Unlike capital gains, which are not realized (or taxed) until a stock (or ETF/mutual fund) is sold, dividends are generally taxed at either 15% or 20%, meaning that the investor will need to pay taxes in that year for any dividends the REIT generates, which could mean another 1.5-2% reduction in returns, meaning a REITs (assuming a steady share price) could yield as little as 6.5-7% after-tax returns, making it an even worse investment for most people. 

However, it’s important to keep in mind that this generally only impacts taxable brokerage accounts and not IRAs or 401(k) retirement accounts, as investors only need to pay capital gains taxes on dividends when they take money out of the account, meaning that their REIT dividends would stay tax-free until they take a distribution. 

REITs vs. Direct Real Estate Ownership 

Overall, historic performance, volatility data, and tax implications clearly demonstrate that REITs as an asset class (though there may be exceptions in some individual REITs) are a less-than-ideal investment for most investors. As previously mentioned, REITs carry the risks of real estate and the risks of the stock market while, with few exceptions, generating the benefit of neither. 

If you want real estate exposure in your investment portfolio, consider ditching REITs and buying an investment property yourself. However, whether stocks or direct real estate investing is a better choice is a topic for an entirely different article. While owning real estate directly comes with a variety of risks and hassles, at the very least, real estate investors own a real asset that isn’t a victim to the volatility of the stock market, and, better yet, allows them to take a variety of tax breaks, such as mortgage interest deductions, depreciation deductions, and even 1031 exchanges (allowing an investor to defer their capital gains tax burden by purchasing a new property of equal or greater value within a set timeline, usually 180 days). 

So, for now, ditch the REITs in your stock portfolio, consider traditional stocks, ETFs, or mutual funds, or, if you have an itch for real estate that you just can’t scratch, save money, go to the bank, and buy a property yourself. Otherwise, you could be the victim of decades of subpar returns and higher risk, all for the benefit of so-called “diversification.” As legendary value investor Peter Lynch might say, most REIT investing might be more an example of “diworse-ification” rather than diversification. And that’s something no one, not even the biggest real estate fan, needs in their portfolio.