Ten-year Treasury yields have jumped 16.4% since the start of February and it seems to be a foregone conclusion that the Federal Reserve will raise interest rates, perhaps as soon as June.
Fears of imminent rate hike have weighed on rate-sensitive asset classes ranging from utilities stocks to real estate investment trusts (REITs), but there is still a strong fundamental case for income investors to consider exchange traded funds such as the Vanguard REIT ETF (NYSEArca: VNQ). VNQ, the largest REIT ETF, is up 3.5% year-to-date.
While REIT investors may expect some short-term volatility, following a knee-jerk reaction to rising rates, the REITs space could continue to strengthen, along with an expanding economy. [Rate-Sensitive ETFs Get Jammed Up]
“Running the numbers on VNQ supported the idea that it was worth a significant position in the portfolio. The REIT ETF is reasonably stable in price for something that can deliver such strong returns. Depending on the time period used and whether a trader uses monthly or daily returns, the risk standard deviation can range from 115% to 160% of the standard deviation they would measure for the S&P 500,” writes Colorado Wealth Management Fund in a post on Seeking Alpha.
VNQ has become a favorite of frugal income investors, ballooning to $28.4 billion in assets under management due in part to an annual expense ratio of just 0.1%, which makes it less expensive than 92% of rival funds, according to Vanguard data.
Home to 141 stocks, VNQ offers significant leverage to the fundamentally sound commercial REIT space with office an retail REITS combining for nearly 42% of the ETF’s weight. Residential REITs receive a 16.3% weight in VNQ.
All the right factors are fueling property demand. For instance, the housing market is recovering as home sales, housing starts and pricing are steadily on the rise. The jobs market is expanding, with more gains in 2014 than any year this century. More Americans are earning, cutting down debt and spending more. Additionally, the credit markets are in good standing, with rates and inflation both low. [Commercial REIT ETFs in a Good Spot]
VNQ also holds allure for investors looking for new positions in a tax-deferred account.
“One major attraction is there are virtually no income taxes. It isn’t taxed at the corporate level or the personal level. That’s wonderful. Yes, the total investment will be taxed when it is withdrawn in retirement, but assuming the investor’s tax rate remains the same, the net impact is zero,” according to Seeking Alpha.
REITs provide a liquid alternative to owning physical commercial real estate properties. REITs investments also share similar attributes with stocks and bonds. Since REITs are required to distribute at least 90% of their income from rent payments to investors, these real estate investments can generate attractive yields.
Vanguard REIT ETF
