Investors who want yield and are searching for dividends find exchange traded funds focused on real estate investment trusts, or REITs, a good option recently. They have outperformed the S&P 500 for three years after getting crushed in the financial crisis.
Morningstar recommends the Vanguard REIT Index ETF (NYSEArca:VNQ) for the low cost of 0.10%, and the diversification of the REIT market across the United States. It is by far the largest REIT ETF with over $14 billion in assets, and the second most liquid. [ETFs for Income and Yield]
“REITs are a hybrid asset class, offering bondlike yields and the possibility of capital appreciation. Investors starved for yield and hungry for dividends will find REIT ETFs particularly attractive. VNQ yields almost 2 percentage points more than the current paltry 1.6% offered by 10-year Treasuries. Historically REITs were a great diversifier because of low correlation with equities, but today they offer few such benefits; REITs are best thought of as part of a diversified equity allocation,” Abby Woodman wrote on Morningstar.
Other ETFs for the category include iShares DJ US Real Estate (NYSEArca: IYR), SPDR DJ REIT (NYSEArca: RWR), First Trust S&P REIT (NYSEArca: FRI) and Schwab US REIT (NYSEArca: SCHH).
REITs have not moved in lockstep with the broad market in the past, and this made them good portfolio diversifiers. However,the correlation of REITs and the broad market has been rising. After the housing collapse in 2008 the recession hit the REIT market hard, along with various other asset classes.
The likely culprit was the rising importance of indexing and the inclusion of REITs in major indexes, such as the S&P 500 in 2001. It’s no coincidence that correlation began rising in the same time period. Therefore, investors will find that the diversification benefits of REITs are not as strong as once thought. [REIT ETFs to Pya Higher Rents]
VNQ has gained about 14% in 2012. Investors are looking at REITs as a way to cash in on any recovery in the U.S. housing market. They are not direct investments in physical real estate, rather, they invest in the mortgages on real estate properties, reports MarketWire. [ETFs to Capture the Turnaround in the Housing Market]
“Housing has gone from a big negative to neutral” for the economy said Mark Zandi, chief economist of Moody’s Analytics. “By this time next year it will be a plus and two years from now a big plus and one of the reasons the economy will be growing much more quickly than many think in 2014 and 2015.”
Vanguard REIT Index ETF
Tisha Guerrero contributed to this article.