At least because with the Federal Reserve expected to raise interest rates next month, real estate investment trusts (REITs) and the exchange traded funds that focus on that income-generating asset class could soon feel the wrath of rate sensitivity.
Indeed, REITs and REIT ETFs are rate-sensitive just as their utility, preferred stock and master limited partnership peers are. However, a case can be made that economic growth is not only supportive of a rate hike, but for more upside in REIT ETFs as well. Plus, investors are compensated for taking REIT risk in the form of dividend growth.
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Here's a fun fact courtesy of a new research note from S&P Capital IQ: Last week, Chris Hudgins, a real estate analyst for SNL, noted that 101 (45%) of U.S. publicly traded REITs and property companies in his database have raised dividends at least once in the first 10 months of 2015. Hudgins noted this is up from 88 and 92 companies that increased dividends at this point in 2013 and 2014, respectively.
The bad news is, as S&P Capital IQ notes, none of the 15 dedicated REIT ETFs in the research firm's coverage universe have outperformed the S&P 500 this year. That includes the Vanguard REIT ETF (NYSE:VNQ). VNQ, the largest REIT ETF by assets, is down 5.1 percent year-to-date compared to a gain of almost one percent for the S&P 500.
Again, investors opting for an ETF such as VNQ have to take the bad with the good. The good includes the aforementioned dividend growth and a trailing 12-month yield of 3.92 percent, which is nearly 160 basis points above the current yield on 10-year U.S. Treasurys. Additionally, VNQ's annual expense ratio is just 0.12 percent per year, making it less expensive than 91 percent of comparable funds, according to Vanguard data.
REIT dividend growth is a pleasant surprise for many investors. The case against REITs is that their relatively high dividend yields (for stocks) will be less appealing as the yield on the 10-year Treasury moves higher as the Federal Reserve prepares to initiate a rate-hike sequence. Yet as Hudgins notes, 12 U.S. REITs and property companies raised their dividends in October, up from seven in September, said S&P Capital IQ.
The rub is that REITs are seen as richly valued relative to the S&P 500, trading at an earnings multiple that is more than double that of the benchmark U.S. index and nearly triple that of the broader financial services sector.
Home to $24.6 billion in assets under management as of the end of the third quarter, VNQ allocates nearly 42 percent of its combined weight to retail and residential REITs.
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