Prices are negotiated privately, returns are often anecdotal, and even professionals often struggle to compare risk and return across sectors. Yet there is one corner of the industry where the economics are public, standardized, and observable in real time: the world of publicly traded Real Estate Investment Trusts (REITs). Because REITs report like any other corporation — with quarterly earnings, balance sheets, and SEC filings — they allow us to peer into what is a rather opaque world.
For students or anyone entering the field of real estate finance, they can be more valuable than textbooks. What their numbers reveal is that for an industry often built on concrete and steel, the economics of real estate are surprisingly fragile. Real Estate Runs on Thin Margins Across property types, REITs typically earn Returns on Invested Capital (ROIC)only slightly above their Weighted Average Cost of Capital (WACC)— the blended cost of debt and equity.
It is often not more than 100 bps. In many REIT models, ROIC is estimated in the mid-single digits to around 10%[1], and WACC is assumed to be between 6% and 8%, depending on sector, leverage, and risk. This isnʼt a high-margin business.[2] But a REIT that consistently earns even 1% more than its cost of capital will compound quietly for decades.
A REIT that fails to clear that hurdle slowly destroys value. The most fundamental lesson is that real estate investing is generally not about heroics or timing; itʼs about managing capital efficiently, calculating risk and expected return, and managing a myriad of funding sources. Given how thin spreads are —what separates winners from laggards?
Differing Economics While all REITs share the same capital structure constraints—paying out 90% of net income each year in exchange for no corporate tax liability— the underlying asset economics vary dramatically. Industrial and Logistics REITs— companies like Prologis or EastGroup — have been high performers. They benefit from structural demand (e-commerce, supply-chain reconfiguration) and often develop their own projects at yields-on-cost (YOC) meaningfully above market acquisition cap rates.
That development spread translates directly into value creation and is one reason these REITs consistently earn ROIC above their WACC. Multifamily REITsoperate a more balanced and constrained model. Their stabilized yields often mirror or are just slightly above their cost of capital—clearly a razor-thin spread.
But their properties reprice quickly: one-year leases allow rents to adjust, providing steady organic growth and inflation protection. Self-Storage and Data Center REITsoccupy a sweet spot between growth and capital intensity. Short leases, strong pricing power, and modest maintenance capex help them sustain higher ROIC comfortably above their cost of capital.
Retail / Net-Lease REITssuch as Realty Income and Agree Realty earn steady but low-growth returns —against a very similar WACC. Their long leases provide stability, but rent growth is slow, so they depend on external acquisitions for expansion. Office REITs, by contrast, have been suffering.
Many earn less than their cost of capital as demand contracts, tenant- improvement costs rise, and financing becomes more expensive. They illustrate the fact that when ROIC < WACC, even high-profile assets can destroy value. Across all these sectors, one pattern stands out: cap rates and returns cluster tightly around the cost of capital.
Success is earning a small, positive spread across the entirety of a portfolio—and compounding it relentlessly. That leads directly to the role of development. Building vs.
Buying: The Role of Yield on Cost Development — building rather than buying — remains one of the few levers for generating above-average returns. When a REIT constructs a new property, it targets a yield on cost (YOC) that exceeds market cap rates by a meaningful margin. If stabilized assets trade at a 5½% cap rate, developing at 8% YOC creates a 250 bps value spread.
That extra return compensates for construction risk, lease-up uncertainty, and the time value of money — but when executed well, itʼs a genuine source of outsized performance. Once completed, the propertyʼs cash flow becomes part of the REITʼs core portfolio, compounding at the same steady pace as the rest. In effect, development is how REITs manufacture growth in an otherwise mature, low-spread business.
The public REIT market makes the math transparent—but it also holds a deeper lesson for smaller investors. What Private Investors Can Learn from the REIT Model With spreads so narrow, why do investors own REITs at all? The simple answer is that they deliver a combination of income stability and inflation protection.
A typical REIT yields total returns roughly matching the long- run average for the stock market. But the composition is different: more income, less volatility, and assets that have tangible inflation protection. The lesson for private investors should be clear.
Investing in real estate is generally not about flipping assets for profit or making huge, short- term gains. Developing—whether ground up or adaptive reuse—offers greater upside but with that comes significantly more execution risk. It might be tempting for small, private investors to look at REIT returns and think they can do better given that REITS by virtue of their size are limited to large assets usually in prime locations.
Undoubtedly, the thinking goes, there are a myriad of opportunities in smaller transactions and secondary markets that are not on the radar screen of large REITs. This is undoubtedly true. However, expected return is only one-half of the investment equation.
The other, equally important part, is the cost of capital. REITs benefit from a deep structural advantage that goes beyond scale—access to cheap, diversified capital. REITs can often raise unsecured debt in the 4–5% range and equity at 7–8%, producing a blended WACC near 7%.
A private investor financing with 60% leverage at 6–8% and the rest in equity faces a cost of capital at least 200–300 basis points higher. That higher cost of capital (hurdle return) isnʼt just about interest rates — it reflects the fact that the private investor bears significant risks not borne by the REIT or large institutional investor. Concentration risk, illiquidity, and the idiosyncratic risk resulting from the absence of diversification all increase the amount of expected return necessary to make an investment prudent.
Put another way—a single property is a bet; a REIT portfolio is a system based upon diversification and risk management. The Broader Takeaway REITs provide a window into the opaque world of real estate investing. In the end, REITs remind us that real estate investing is not a game of secrets or shortcuts.
It is built on cap rates, growth rates, the cost of capital, and the benefits of long-term compounding. Most importantly, it is built on discipline. Real estate is, at its core, a business of spreads— between expected return and cost of capital.
Those who manage both with rigor are the ones who endure. [1] Professor Aswath Damodaranʼs January 2025 sector data show an average U.S. REIT ROIC of 3.09%, but this figure reflects accounting returns based on EBIT.
Because depreciation heavily suppresses reported earnings, accounting ROIC understates the true economic returns of most REITs (even though properties are carried at historic cost), which in practice tend to run closer to 6-9% on a cash flow basis. [2] These returns reflect the economics of the REITs themselves, the economics of owning, operating and building real estate—not the total shareholder returns investors earn from owning their stock. Over time, the two tend to move together, but they are not the same thing.