Opinion – Grain in Grain: Is living off income with paper real estate funds better than with brick ones?

Real estate funds (REIFs) can be classified in a few different ways. One of the ways is related to the type of asset they invest. Receivables funds, which invest in fixed income securities backed by real estate, are also known as paper funds. When it comes to earning income, many investors prefer this type of FII. However, you need to consider a factor that I explain below.

Investors like paper funds because they generally have two characteristics: they are more stable and they have a higher dividend rate.

Any reader at this point would say, but isn’t that reason enough?

Undoubtedly, for the investor who is starting to invest in FIIs, starting with receivables funds is safer, as they generally have lower price volatility.

This smaller price fluctuation is explained by two reasons. First, the fixed-income securities they have in their portfolio usually have maturities of less than 10 years.

The term influences the effect of interest rate fluctuations. The shorter a bond’s maturity, the less its price is affected when interest rates fluctuate.

Real estate is a long-term asset. Therefore, brick FIIs, which invest in these assets, suffer more from interest rate fluctuations.

The second reason for the smaller price fluctuation of paper FIIs is the natural risk of real estate that I mentioned yesterday and that fixed income securities do not suffer. Homes may become vacant or their tenants may force a rent reduction. However, if a creditor fails to pay or wants to reduce the interest paid on the bond, he loses the property he pledged. Therefore, receivables FIIs suffer less in adverse market conditions as we have experienced in recent months.

In addition to having less fluctuation in price, the dividend of paper FIIs is greater than that of bricks, but there is a question to be raised here.

While the average dividend rate for brick FIIs is around 9% a year, paper FIIs pay around 14% a year in dividends.

This means that you would only need an investment of BRL 428,500 in paper FII to obtain an average monthly income of BRL 5,000. Meanwhile, to obtain the same income with brick FII, an amount of R$ 667 thousand would be needed.

Therefore, it seems that investing in paper REIF is always better.

But this difference occurs because paper FIIs usually distribute the inflation gain together in the dividend. For example, imagine that a receivables fund bought only one security whose yield is IPCA+5% per year. If the IPCA is 10% then the fund distributes around 15% in dividends.

Thus, it can be said that the paper FII dividend is nominal, that is, it does not only distribute the real interest rate, but it also distributes inflation in addition to the real rate.

Brick FII, on the other hand, only distributes the real gain, that is, the one above inflation.

And what is the importance of this for those who want to live on income?

The point is that the paper FII dividend is not adjusted for inflation. So, if you receive today, monthly, R$ 5 thousand from your paper FII, in 20 years you will receive the same R$ 5 thousand. But, in 20 years, these R$ 5 thousand lost value over time.

If you earn BRL 5,000 from brick FIIs, in 20 years, it is expected that these BRL 5,000 will be much higher, as they are adjusted for inflation.

Therefore, it is not an absolute truth that living on income with paper real estate funds is easier or better than with brick ones. The ideal is to have a balance between them that adjusts the return and risk with the objectives and profile of the investor.

Michael Viriato is an investment advisor and founding partner of Investor’s House

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