ETF Trends
ETF Trends

Many are worried that a rising interest rate environment could weigh on real estate investment trusts and sector-related exchange traded funds after quantitative easing policies helped inflate the asset category. However, REITs may be less vulnerable than may believe as strong economic growth could help sustain the sector.

Year-to-date, the Vanguard REIT ETF (NYSEArca: VNQ) fell 0.9%, SPDR Dow Jones REIT ETF (NYSEArca: RWR) rose 0.6% and iShares Dow Jones US Real Estate Index Fund (NYSEArca: IYR) dropped 0.7%. [REIT-bound: Yield-Generating ETFs More Attractively Valued]

The REITs ETFs have previously been a popular income-generating play in low-yield environment. For instance, VNQ has a 3.92% 12-month yield, RWR has a 3.19% 12-month yield and IYR has a 3.71% 12-month yield. [Looking At REIT ETFs In A New Light]

As interest rates are expected to rise and demand for riskier source of yield wanes, some analysts worry that a correction is due for the REITs sector.

However, real estate investment firms argue that values do not have much further to fall and are less vulnerable to the threat of rising rates than many would believe, pointing to positive signals like job growth and rising inflation ahead, which would help offset any weakness from a higher interest rate, reports Henny Sender for the Financial Times.

“We have been running our business with the expectation that interest rates will increase, particularly in the United States; in fact, we welcome this. Interest rates will rise because the economy is improving and that is positive for business,” Brookfield Asset Management previously told shareholders.

Moreover, Goldman Sachs believes the macro outlook is supportive for the residential market.

“Residential investment is on pace to grow at a solid 9 per cent rate this year. We are trimming our expectations for 2016 slightly — lowering our forecast for residential investment to 8 per cent from 11 per cent previously — but we still expect housing to be the top performer among the major components of GDP,” according to Goldman Sachs analysts.

For residential REITs exposure, ETF investors can take a look at the iShares Residential Real Estate Capped ETF (NYSEArca: REZ), which includes a 47.1% tilt toward residential REITs and a 3.33% 12-month yield. REZ gained 4.4% year-to-date.

Other analysts have also dismissed claims that there is a bubble in the real estate space where prices have been rising, contending that the higher prices reflect the dearth in supply.

Moreover, while inflation may be low now, REITs are seen as a hedge against potentially rising inflation ahead. REITs with shorter lease durations will fare better in a rising-rate environment since they are able to more frequently negotiate higher rents from tenants.

“Real estate is TIPS (Treasury Inflation Protected Securities) on steroids,” Bob Steers of real estate investment firm Cohen & Steers told the Financial Times. “REITs are not bonds. The most certain thing is that if rates are rising and you are in fixed income you will lose money.”

For more information on real estate investment trusts, visit our REITs category.

Max Chen contributed to this article.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.