Real estate as an investment: rental flat, REITs, open-ended funds and private real estate

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Real estate as an investment comes in many forms: the rented-out flat, listed property companies and REITs, open-ended real estate funds, private real estate funds and real estate loans. Here you recalculate gross and net rental yield and the return on equity with a loan, using an example. You will see how appraisals smooth values, why REITs fell immediately in 2022 while appraisal-based values only followed in 2023, and what research since 1870 shows.

Five ways into real estate

An owner-occupied home is mainly consumption; its return is the imputed rent, the rent you save. It is covered in the article total wealth. As an investment, these are the options:

What the return consists of

• Rental yield: rent relative to the price. The gross rental yield divides the annual net cold rent (excluding service charges) by the purchase price; the net rental yield deducts costs that cannot be passed on to the tenant and uses the price including purchase costs.
• Change in value: in the long run, the smaller part. Jordà et al. (2019), like Shiller (2000) before them, find a real increase in value of only around 1% a year; most of the return came from rents.
• Leverage: with a loan, every price change has an amplified effect on your equity (more in the article leverage).
• Costs: purchase costs such as real estate transfer tax, notary, land registry and, where applicable, estate agent fees, plus maintenance, management, vacancy and rent defaults.

Jordà et al. (2019) estimate how heavily transaction costs weigh using OECD data: buying and selling together cost around 7.7% of the property's value in 13 of their 16 countries. With a holding period of ten years, that is about 0.77 percentage points of return a year.

Worked example: a rented-out flat with a loan

Behind this is the formula for the leverage effect. The return on equity depends on the gap between the return on total capital and the interest rate on the loan:

With a 2% increase in value, r_T = 4.73%, and therefore 4.73% + (4.73% − 3.5%) × 240,000 / 90,000 = 8.00%. Without an increase in value, r_T is 2.91%, below the interest rate. The leverage then costs return, and 1.33% remains.

REITs, open-ended real estate funds and private real estate

REITs and property shares

A REIT (real estate investment trust) is a listed property company that is exempt from tax at company level if it distributes most of its profit. The German REIT-AG has existed since 2007: it must distribute at least 90% of its annual net profit, is exempt from corporation tax and trade tax, and may not hold domestic rental flats built before 2007 (REIT Act 2007). REITs fluctuate like equities, but in return they can be traded daily and are broadly diversified. Mortgage REITs hold mortgage loans instead of buildings.

Open-ended real estate funds in Germany

An open-ended real estate fund (offener Immobilienfonds) is a segregated fund (Sondervermögen) under the German Investment Code (Kapitalanlagegesetzbuch, KAGB (2013)), as amended by the Fund Risk Limitation Act (Fondsrisikobegrenzungsgesetz) of April 2026:

• Minimum holding period: you can only redeem units after 24 months (§ 255(3)).
• Notice period: you must give irrevocable notice of redemption twelve months in advance (§ 255(4)). Funds may restrict redemptions to fixed dates, at least every twelve months (§ 255(2)).
• Liquidity: at most 49% of fund assets may be held in liquid assets, and at least 5% must be available for redemptions (§ 253).
• Suspension: if there is not enough cash, the fund suspends redemptions and sells properties (after twelve months at up to 10%, after 24 months at up to 20% below the appraised value). If that is still not enough after 36 months, the fund is wound up (§ 257).
• Valuation: the properties are revalued within three months, earlier in the event of material changes (§ 251).

Private real estate

Private real estate funds buy buildings directly and use the same classification as in infrastructure (core to opportunistic): core means fully let properties in good locations with little debt, value-add means properties with vacancies or in need of refurbishment, and opportunistic means project developments and special situations with a lot of debt. As with private equity, the J-curve, fees and appraisal values matter. Private investors access such strategies mainly through ELTIFs and other semi-liquid funds.

Valuation: appraisals, income capitalisation and smoothing

For a property without a market price, an appraiser estimates the market value. For investment properties, the usual method is the income capitalisation approach (Ertragswertverfahren) under the German valuation ordinance ImmoWertV (2021): it works with the income achievable at market rates, the net income after operating costs, the land value, the remaining useful life and the property yield (Liegenschaftszinssatz), i.e. a capitalisation rate derived from suitable purchase prices and the associated net incomes. In very simplified terms, the value is the net income divided by this rate: €9,600 of net income gives exactly €300,000 at 3.2%, but only €259,459 at 3.7%. Half a percentage point costs 13.5% of the value.

Appraisals are based on past comparable sales and are only updated at intervals. They therefore follow the market with a lag. This is called smoothing. The interest rate turnaround shows this clearly. According to Nareit (2023), the index of listed US REITs lost 24.95% in US dollars in 2022, more than the S&P 500 at 18.11%. The appraisal-based index for US commercial real estate held by institutional investors, by contrast, fell gradually: according to NCREIF (2024), at the end of 2023 market values were 14.39% below the peak of the second quarter of 2022, having fallen for six quarters in a row, and 2023 brought −7.95%. Revealingly, the appraisals assumed a capitalisation rate of 4.55%, while properties actually sold went for 5.47%, i.e. at considerably lower prices.

In Germany, according to the house price index, residential property prices fell by 8.4% on an annual average in 2023, more than ever since the series began in 2000 (Destatis 2024); in 2025, according to provisional figures, they rose again for the first time, by 3.2% (Destatis 2026). The article measuring private markets shows how to unsmooth smoothed series, for example following Geltner (1993).

For advanced readers: how risky is real estate really?

Jordà et al. (2019) find that residential property returned about as much as equities over the long run, but fluctuated much less. For the authors, this is a puzzle. Part of the answer lies in measurement. Their indices represent broadly diversified holdings; a single house fluctuates more. In US data from 1995 to 2015, which they analyse for this purpose, the standard deviation of the real change in value rises from 5.67% a year for the whole country to 7.46% for a single postcode. On top of that come smoothing, leverage and transaction costs.

If you adjust for these differences, the gap between the stock market and appraisals shrinks. Pagliari et al. (2005) adjusted REITs and private real estate for property mix, leverage and appraisal smoothing; afterwards, the mean and volatility did not differ statistically. Ling and Naranjo (2015) found for 1994 to 2012 that unleveraged core REITs, after adjusting for leverage, property types and fees, were 49 basis points a year ahead of private real estate and process new information faster. So REITs show earlier what appraisals only report later. That makes them suitable as a public proxy, provided you take their leverage into account.

What the research shows

The longest series: Eichholtz (1997) built an index for houses on Amsterdam's Herengracht from 1628 to 1973. In real terms, at the end they were worth only twice as much as at the start; after the Second World War, prices rose by about 3.2% a year in real terms. Jordà et al. (2019) calculated total returns for 16 industrialised countries since 1870: residential property and equities each returned about 7% a year in real terms on average. Before the Second World War real estate was ahead, afterwards equities, which, however, fluctuated much more and moved more closely with the business cycle. The rental yield was higher and more stable than the dividend yield on equities.

On measurement: Bailey et al. (1963) founded the repeat-sales index, which compares prices of the same property at different points in time and so sidesteps differences in quality. Eichholtz combined this idea with a hedonic adjustment; research on collectibles uses the same methods.

Taxes in Germany: just the framework

Rental income counts as income from renting and leasing (EStG § 21 2009), not as investment income. It is taxed at your personal income tax rate, not at the flat-rate withholding tax (Abgeltungsteuer) (EStG 2009). If you sell a rented-out flat within ten years of purchase, the gain is taxable as a private sales transaction; after that, as a rule, it is not. The exception is a home that you lived in yourself exclusively between purchase and sale, or in the year of sale and the two years before (EStG § 23 2009).

Funds are governed by the Investment Tax Act (InvStG). A real estate fund receives a partial exemption (Teilfreistellung) of 60%, a foreign real estate fund one of 80% (InvStG 2016), but only if its investment terms stipulate the required quotas. Whether a REIT fund qualifies is stated in its documents. More in the article flat-rate tax and partial exemption. This is not tax advice.

Limits and common mistakes

• Gross instead of net: only after ancillary costs, maintenance and vacancy do you see what is left (in the example 2.91% instead of 4.00%).
• Counting repayment as a cost: repayment is saving; the costs are interest and running the property.
• Concentration risk: one property, one location, few tenants. Indices show the risk of diversified holdings.
• Smooth curves: appraisal values and the unit prices of open-ended real estate funds fluctuate little because they are smoothed, not because the risk is small.
• Liquidity: notice periods, suspensions and long sale periods bite precisely when you need money.
• Interest rates: higher interest rates push values down via the capitalisation rate and make refinancing more expensive.

This article is not investment, tax or legal advice.

How Portfolio Lab calculates it

The Asset classes include listed real estate as monthly series in euros: “Listed real estate (REITs World)” (@REITS); by region “REITs US” (@REITS_USA), “Real estate equities Europe” (@REITS_EUROPA) and “Real estate equities Asia-Pacific” (@REITS_ASIEN); by sector “REITs residential (USA)” (@REITS_WOHNEN), “REITs logistics & industrial (USA)” (@REITS_LOGISTIK) and “REITs data centres & cell towers” (@REITS_RECHENZENTREN); plus “Mortgage REITs” (@MORTGAGE_REITS). Fund costs are already included in the price. The app does not model open-ended real estate funds, private real estate or individual flats as a series.

In the Backtest, the app suggests the tax category “Other fund” without a partial exemption for these series. If, according to its investment terms, a fund counts as a real estate fund, you change the tax category for that security to “Real estate fund, German (60%)” or “Real estate fund, foreign (80%)”; the partial exemption then applies to the Vorabpauschale (advance lump-sum taxation) and the capital gain on sale, as described in the tax methodology. You can enter rental income from your own flat in Financial goals as recurring income (net); the app does not simulate the value of the flat.

This article explains a method; it is not investment or tax advice. Worked examples are simplified and rounded. All terms in the glossary.