Is a revival on the cards for these high-yielding trusts?

Are REITs due a revival? Real estate investment trusts (REITs) have struggled in recent times, with a challenging economic environment weighing down on valuations, but some analysts are now optimistic the sector is bottoming out. 

With many funds trading at bargain-basement prices – and the tax treatment of REITs remaining attractive – now could be the moment to consider a return to the sector, at least for selective investors.

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First the basics. REITs offer exposure to portfolios of property assets – usually in the UK – and are structured to distribute at least 90% of the rental income they earn from these assets to their shareholders. 

As long as they hit that threshold, REITs pay no corporation tax on their profits. 

Instead, shareholders pay income tax, rather than dividend tax, on the distributions they receive, as if they owned the underlying properties themselves.

REIT shares can be held inside an individual savings account (ISA), in which case dividends are tax-free.  

In addition, some REITs are incorporated in the Channel Islands, in which case there is no stamp duty to pay when buying their shares. 

Challenging times

So far, so good, but tax efficiency is not reason enough alone to justify investment. And in recent years, the investment case for property more broadly has been challenging – mostly because the period since the Covid pandemic has largely been one of rising interest rates

Such an environment – or even just the expectation of higher borrowing costs – can be a killer for all investors in property – including REITs.

The first problem is that since most property, whether residential or commercial, is acquired with at least some debt, demand will fall when debt becomes more expensive. That hits the capital value of property assets.

Also, if you’ve already taken on debt to finance property investments, you may now have to pay more to service it. 

With REITs, explains Emma Bird, head of investment trust research at Winterflood, there have been concerns “regarding the financing structures of some investment trusts – for example if they have a large proportion of floating rate debt or material upcoming refinancing requirements, which would likely result in significantly increased debt costs”. That could hit their ability to pay dividends.

A third challenge is that higher interest rates mean the income you can earn from gilts – regarded as risk-free securities given that they’re issued by the UK government – will also increase. The yield on a UK 10-year gilt currently comes to around 5%.

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Investors naturally want a premium over gilts when they invest in risker assets such as REITs, so they therefore hold back on investing until the share price sinks to a level where the yield rises enough to restore that premium.

All of which has spelled trouble for REITs. 

At the beginning of the year, the Bank of England’s Monetary Policy Committee (MPC) was expected to reduce interest rates further over the course of 2026, having made four cuts in 2025. 

But fears of the inflationary impact of war in the Middle East – amid rising energy prices in particular – changed the dynamic. 

By the spring, the MPC was tipped to return to raising rates, as it did consistently from 2022 to 2024 to counter inflation. 

Why buy now?

No wonder many funds have struggled. The average UK Commercial Property investment trust delivered a negative return of 4.5% over the five years to mid-August according to the Association of Investment Companies (AIC). 

Shares in these funds now trade at an average discount to the value of their underlying assets of almost 22%.

Still, perhaps we are finally at a turning point, with some economists pointing out that the inflationary impact of the Iran conflict has been less severe than expected. 

That potentially mitigates the need for higher interest rates – particularly if a Middle East peace deal can be reached.

Moreover, property provides important diversification benefits for investors keen to manage risk by reducing their dependence on conventional assets such as equities and bonds. 

And the income generated by many REITs looks attractive – at current share prices, the average UK Commercial Property fund yields 7.84%, the AIC reports.

“Now could potentially be an attractive time to invest in property investment trusts, with discounts remaining wide in many cases,” suggests Bird. 

“In a more benign interest rate environment, possibly facilitated by a resolution to the Iran war, we would expect to see improvements in underlying asset valuations.”

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She also points out that the sector is beginning to see further takeover speculation and deals – because large institutional investors and property companies think REITs are too cheap. “We would also expect downside discount risk from current levels to be limited to an extent by the potential for M&A activity, which has been a common feature of the sector recently, providing somewhat of a floor under valuations.”

The sector has seen lots of consolidation already in recent years but more potential deals are on the table – including for names such as Alternative Income REIT Ord (LSE:AIRE).

Still, don’t assume a different interest rate environment will shift the dial for REITs, which face other problems too. 

One worry is that in this ongoing period of slow economic growth, demand for most types of commercial property will suffer. 

In a lacklustre economy, businesses rent less office space, retail outlets close and industrial premises operate below capacity.

Also, some areas of commercial property are struggling with deep-seated structural problems. 

For example, high streets in most towns in the UK have fared poorly in the face of competition from online shopping; that’s not conducive to robust returns from investments in retail premises. 

Care homes: one industry voice believes there’s potential for strong long-term returns as the care home market continues to experience rising demand, with new supply failing to keep up.

Treading carefully

On this basis, analysts urge investors to think carefully about the type of exposure individual REITs offer.

Funds offering access to logistics assets – warehousing, for example – may be preferable to those owning high street shops.

There is also growing interest in REITs that own digital infrastructure assets such as data centres.

“REITs are an area where taking an active approach can add value,” says Alex Watts, senior investment analyst at interactive investor.

“Skilled managers can identify mispriced opportunities, navigate a rife M&A landscape, differentiate between sectors’ and regions’ growth prospects, and assess the strength of individual balance sheets, asset quality and management teams.”

One question for investors, adds Bird, is whether they want a REIT that invests broadly across the UK commercial property sector, or a fund that takes a more specialised approach. Investors new to REITs may prefer the former approach, although certain types of asset have specific appeal.

“For diversified UK commercial property exposure, we are currently recommending Custodian Property Income REIT Ord (LSE:CREI),” she says.

“This fund invests across a range of sub-sectors, with a focus on smaller lot sizes, which means that the portfolio is well diversified, reducing asset- and tenant-specific risk.”

The focus on smaller properties also provides a yield advantage as the fund’s target assets are off the radar of most institutional investors, improving the supply and demand dynamics, Bird points out.

Custodian Property Income currently offers a prospective dividend yield of more than 7%.

“For more specialist exposure, we think Target Healthcare REIT Ord (LSE:THRL) provides a compelling proposition,” Bird says.

“There is potential for strong long-term returns supported by long-run fundamentals, as the UK care home market continues to experience structurally rising demand, with new supply failing to keep pace.”

Other options

Other possibilities include LondonMetric Property (LSE:LMP), tipped by several analysts in recent weeks.

The fund’s focus on logistics – and particularly last-mile distribution – is one attraction. But the fund has also grown in size by taking opportunities to buy other real estate businesses at attractive prices.

Tritax Big Box Ord (LSE:BBOX), another logistics-focused REIT also attracts attention, and has been winning praise following a strong set of results in August.

“With supportive market fundamentals including strengthening demand, tightening supply and rents continuing to grow ahead of inflation, we are well placed for 2026,” says investment director Bjorn Hobart.

“Our focus remains on disciplined capital allocation and recycling into higher-return opportunities to ensure long-term value creation for shareholders.”

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Watts, meanwhile, suggests a slightly different approach.

“TR Property Ord (LSE:TRY) takes a hybrid approach to pan-European property, meaning it invests in listed European property-related securities, such as REITs, but is also permitted an allocation (of up to 15%) to physical property,” he explains.

“The benefit of the hybrid approach is that the listed property securities component provides daily liquidity while the closed-ended structure also means investments don’t need to be sold to fund redemptions.”

The latter point is important. One advantage of REITs – and investment trusts more generally – is that their structure is well-suited to illiquid assets such as property. Managers look after a fixed pool of assets, with investors getting exposure to this pool by buying shares in the fund on the stock market.

By contrast, open-ended funds must cope with inflows and outflows of investors’ money according to demand and supply for the fund. In the past, this has seen some funds face serious problems at times when large numbers of investors have demanded their money back, leaving managers trying to sell property in a hurry to fund withdrawals.