Open-Ended vs. Closed-Ended REITs: Understanding the Difference

Closed-end REITs are sometimes priced at a premium to the REIT's net asset value.

Real estate can be bought and sold on the stock market when it is packaged inside a real estate investment trust. A REIT is a financial security, similar to a mutual fund, in which you can invest in shares. Like mutual funds, REITs can be open-ended or closed-ended. The way your REIT is designed affects the way your shares are priced.

REIT Basics

A REIT is a company that pools together investor money and invests it in real property. In most cases, REITs invest in commercial property, which earns an income for investors through rental payments and capital gains if it can be sold for a profit. If you buy shares in a REIT, you can earn money when the company pays investor dividends and you can earn money if you are able to sell your shares for a higher price than you paid for them, much like a stock.

Open-End REITs

Open-ended REITs do not have a fixed number of shares. When you invest money in an open-end REIT, new shares are created and your money is added to the investment pool. When you sell shares, your shares are dissolved and the money in the investment pool shrinks by the value of the shares you sold. The share price for this type of investment is based on the REIT's net asset value.

Net Asset Value

In an open-ended REIT, the number of shares and investment assets change throughout the day, making it very difficult to keep track of. As a result, share values are calculated once per day after the stock market is closed. The NAV is determined by totaling all assets held by the REIT, subtracting liabilities and then dividing this total by the number of shares owned by investors. When you buy shares in an open-end REIT, your cost per share is determined by the NAV calculated the previous day. When you sell your shares, the price you receive is determined at the close of the day.

Closed-End REITs

Unlike an open-ended REIT, the number of shares in a closed-end REIT are fixed. Closed-end REIT companies raise money by selling shares through an initial public offering, much like corporations raise money selling stock to the public. Money raised from the IPO is used to invest in various real estate projects. Share prices for this type of REIT are based on what investors are willing to pay for them at any given time, just like a stock. As a result, the share price can change throughout the trading day.