Real estate stocks and the corresponding exchange traded funds struggle somewhat last year against the backdrop of rising interest rates, but with expectations rising that the Federal Reserve may not be able to raise rates this year, rate-sensitive asset classes have some momentum.
ETF investors can also track the broader REITs space with options like the Vanguard REIT ETF (NYSEArca: VNQ), which includes a 16.9% tilt toward residential REITs. Expectations for higher interest rates usually drag on REITs as the dividend-yielding equity asset look less attractive relative to safer government bonds in a rising rate environment.
While the Federal Reserve is moving toward interest rate normalization, the Fed has reassured markets that it will make gradual hikes.
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.
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.
VNQ “has been trading within an extremely strong uptrend since late 2011. Notice how the price bounced higher on each occasion that it traded near the support of the trendline (shown by the blue arrows). Based on technical analysis, the recent move toward the trendline could be presenting strategic investors with an ideal buying opportunity. Specifically, investors would expect the pattern of a bounce higher to occur again and will likely hold a bullish outlook on the fund until it closes below the major support levels,” according to Investopedia.
Additionally, REITs provide diversification benefits as the asset shows a lower correlation to stocks and bonds. Over the past three decades, REITs’ rolling 36-month correlation to other stocks ranged from 0.89 to negative 0.16 – a value of 1 translates to perfect lock step while a negative value means the two assets moved in opposite directions. The correlation between REITs and Treasuries was 0.74 to negative 0.66 over the same period.
Vanguard REIT ETF
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.