Real Estate Investment Trusts – REITs – are one of the hottest commodities in the investment world. Unfortunately, a handful of stockbrokers are trying to sell them to the wrong group of investors. With many states and the SEC cracking down on improper REIT sales tactics, Wall Street has added a new wrinkle, illiquid alternative mutual funds.
To best understand this newest phenomena, a short discussion on REITs is in order
REITs allow investors to pool their money and invest in large real estate projects such as apartment buildings, office complexes and hotels. Congress passed favorable tax laws that now allow investors to share above market returns and favorable tax treatment. Some of the hottest REITs are nontraded, however, meaning they can’t be readily bought or sold.
Buy 100 shares of IBM stock, for example, and you can sell those shares anytime you need money. Purchase 100 shares of a non-traded REIT and you may have to hold that investment 7, 8 or even 10 years before you can sell. This makes non-traded REITs most suitable for institutional investors and others who can take long term risk. Unfortunately, these same products are often sold to elderly investors and others who may need access to their capital in the short and medium term.
The SEC, the Financial Industry Regulatory Authority (FINRA) and many states have stepped in to monitor marketing practices of illiquid investors.
Stockbrokers and investment advisors have a legal duty to understand their clients’ financial needs and only recommend suitable investments. Often, however, nontraded REITs and other illiquid alternative investments are marketed to the wrong investors. Why? Because these products typically pay commissions far in excess of traditional products such as stocks and bonds.
While the regulators have finally begun taking action against brokers who are selling the wrong REIT products to the wrong investors, Wall Street has introduced a new product to the market; mutual funds that are made up of nontraded REITs and other illiquid investments.
Recently an SEC executive called these new alternative funds “a bright, shiny object with sharp edges.”
In a recent speech, Andrew Bowden, director of the SEC’s compliance inspection office, said, “The use of market valuation for illiquid securities in an open-ended mutual fund, which requires daily valuation and offers daily liquidity is fraught with risk. If any of you are considering launching a mutual fund that uses alternative investments or strategies, I implore you to evaluate the reasonableness and the effectiveness of your controls.”
Although we have seen many alternative funds, we have not seen any that concentrate in nontraded REITs. Yet.
If the SEC is warning the industry, one or more firms have tried introducing such products to the market.
If you suffered a REIT loss caused by either the REIT itself or the stockbroker recommending the REIT, you are not alone. Thousands of people suffer from REIT fraud each year. If you purchased from a stockbroker, it may be possible to get back your money and recover any other losses you may have suffered. Most losses can be pursued through binding arbitration.
We have teamed up with several law firms throughout the country to pursue REIT loss cases. If you are seeking information about nontraded REIT claims, check out our special nontraded REIT investment loss page. Still need more information? Contact Brian Mahany online, by email at or by phone (202) 800-9791.
(photo courtesy of photoholic and freedigitalphotos.net)