Nevertheless, REITs own interest in properties that can appreciate in value, and as the economy improves, rents on those properties typically rise, bolstering the return on the REITs. The high-flying mortgage REITs segment could also strengthen as default rates and prepayment rates dip as the economy improves.
Looking at past periods of rising rates, during four of the six periods when yields on the 10-year Treasury bond rose by more than 100 basis points, the return on REITs was positive, with a sizeable outperformance in small-cap REITs – small-cap REITs saw a cumulative return of 90%, compared to large-cap REITs’ 6% return.
“Clearly, the returns of the REIT indices do not move lockstep in the opposite direction of interest rates,” according to IndexIQ.
ETF investors interested in gaining exposure to the potential growth of small-cap REITs can look to the targeted IndexIQ US Real Estate Small Cap ETF (NYSEArca: ROOF). The ETF has a 69.0% position in small-caps and 27.4% in micro-caps. ROOF also generated an attractive 5.92% 12-month yield.
For more information on real estate investment trusts, visit our REITs category.