Brokerage Firms Beginning to Grow Leery of Non-Traded REITs


Registered Rep Magazine, a publication geared to brokers, reports that the securities industry is beginning to shun non-traded real estate investments trusts (REITs). Well-publicized disciplinary actions and investor arbitration claims, as well as the hundreds of independent brokerage firm that were forced to close their doors as a result of improper sales of non-traded REITs, have brought an increased awareness of the risks of these alternative investments on the part of investors and the securities industry. (“Non-Traded REITs Raising Red Flags in the Industry,” Registered Rep).

Many brokerage firms and investment advisors have decided to drop non-traded REITs because they are illiquid, lack transparency, have high fees, and have valuation problems.

The about-face executed by these brokerage firms and advisors is in step with the advice of securities analysts who do not have a stake in selling non-traded REITs. MarketWatch’s Chuck Jaffe listed non-traded REITs as his “Stupid Investment of the Week.” Jaffee said investors who are interested in adding real estate to their portfolios should buy publicly listed (i.e., traded) REITs. Likewise, Philip J. Martin of Morningstar said: “Presently, Morningstar does not believe a significant investment in non-listed REITs makes sense for most investors as there are still too many drawbacks and unresolved issues. We believe listed REITs to be the most appropriate option, from the standpoint of both the alignment of shareholder interests and long-term risk/return potential.”

Investors had turned to non-traded REITS looking for yield and low-correlation with the stock market. But the crackdown by regulators has raised red flags:

The Financial Industry Regulatory Authority recently fined Atlanta-based Wells Investment Securities $300,000 for misleading investors about its Timberland non-traded REIT. Misleading advertising and sales materials indicated that Wells Timberland was a REIT when it was not, and also contained material misrepresentations about Wells Timberland’s portfolio diversification, as well as its ability to make distributions and redemptions.

The Financial Industry Regulatory Authority Inc. (FINRA) also filed a disciplinary proceeding against David Lerner Associates for providing misleading pricing of $11 per share on account statements and misleading performance figures. Investors bought $5.7 billion of its Apple REIT offerings from 2004 to 2011. They were routinely mis-valued at $11 a share on account statements that Lerner sent to customers, despite the fact that they were actually worth much less than that from the outset, and further lost value when the commercial real estate market plummeted. In addition, FINRA faulted Lerner for not disclosing that the non-traded REITs did not generate enough income to pay their 7-8 percent distributions, which were partially funded by debt and return of investors’ capital. FINRA also charged Lerner with “targeting unsophisticated and elderly customers with unsuitable sales of this illiquid security” and misled them regarding the record of earlier Apple funds.

Finally, FINRA issued an “Investor Alert” on the subject of non-traded REITS, warning of:

? Front-end fees as high as 15% (every dollar invested is worth 85 cents from the outset)
? Early redemption that are restricted and priced below the purchase price or current price
? Illiquidity and valuation problems
? Lack of disclosures and lack of transparency
? Distributions consisting of investors’ principal or borrowed money ? Distributions being suspended or terminated altogether.
? Distributions being subject to higher ordinary income tax rates.

Having feasted on high-commission non-traded REITs for over five years, many brokerage firms are experiencing reflux and pushing away from the table. This should serve as an invitation for non-traded REIT investors who have not already done so to investigate their non-traded REIT investments. Any investor who purchased or held a non-traded REIT in the last six years should consult with an attorney with the appropriate experience.

Page Perry is an Atlanta-based law firm with over 170 years collective experience representing investors in securities-related litigation and arbitration. While past results are not indicative of future success, Page Perry’s attorneys have recovered over $1,000,000 for clients on more than 45 occasions. Page Perry’s attorneys have extensive experience in representing investors in cases involving non-traded REITs and other alternative investments.