Analysis & Opinion

n>(Reuters) — The Financial Industry Regulatory Authority is cautioning brokerage firms about the way they market some real estate investment trusts after a review by the Wall Street watchdog revealed problems, according to a regulatory notice.

Some brokerages are giving investors information about non-traded REITs, which invest in commercial real estate, that include inaccurate or misleading statements about the potential benefits of investing in such programs, FINRA said in a notice posted on its website late Thursday.

The Wall Street self-regulatory organization said some communications promote REIT distributions that are paid to the investor as income but fail to explain adequately that those distributions include some return of principal.

REITs invest in commercial real estate, such as hotels and strip malls, allowing investors to profit from rising property values. Non-traded REITs often have higher fees for investors than publicly traded REITs.

Since non-traded REITs do not trade on securities exchanges, they can be illiquid or difficult to sell in secondary markets.

Some communications that brokerages give investors to promote the securities do not adequately explain such risks to balance the presentation of benefits, FINRA wrote in the notice.

FINRA has been honing in on improper sales of non-traded REITs for at least several years. In October, the securities regulator announced a settlement with a Syosset, New York-based brokerage, David Lerner Associates, which agreed to pay about $12 million to customers who bought into a $2 billion REIT.

The regulator’s concerns also extend to unlisted direct participation programs, or DPPs, a type of security that allows investors to participate in the cash flow and tax advantages of an underlying investment, include real estate.

The non-traded REIT and DPP industries presently hold $62.4 billion in investments, according to Robert A. Stranger & Co. a real estate investment banking firm in Shrewsbury, New Jersey. The two industries raised $10.3 billion in investments in 2012.

FINRA’s guidance does not mention the brokerages it reviewed or how many.

It told the brokerage industry, however, that descriptions of the real estate securities they offer must be consistent with information included in the prospectuses for those securities.

Details about distribution rates must also be fair and balanced, FINRA wrote. For example, brokerages cannot describe them as a yield, which may improperly suggest the investment is a bond. They also must explain, among other things, that distribution payments are not guaranteed.

In addition, brokerages may not cherry pick historical performance information about REITs affiliated with current products they are pitching. Brokerage should include, with equal prominence, all information about affiliated or related REITs, FINRA said.

The Investment Program Association, a trade group for non-listed direct investment vehicles, said on Friday that it supports FINRA’s guidance. The measures are a model for proper investor communications protocols, said Kevin M. Hogan, IPA’s president and chief executive, in a statement.

The group added that non-traded REITs are overseen by multiple regulators and that brokerages that offer them typically require clients to meet certain thresholds for income and assets available to invest before investing in the securities.

(Reporting by Suzanne Barlyn; Editing by Linda Stern. Nick Zieminski and Dan Grebler)