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Portfolio Strategies »
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In this month’s issue, we are starting a series of periodic articles about real estate investment trusts. These trusts, as the name implies, invest in real estate. It’s an asset class we—and other investment magazines—have only sporadically run articles on.
REITs are worthy of more attention. Between 1972 and 2016, these investment trusts have realized annualized returns of 11.9% annually according to the 2017 SBBI Yearbook (Duff & Phelps, 2017). This return is better than the 10.4% annualized gain realized by large-company stocks over the same period. Granted, small-cap stocks have done even better, with a 13.3% return, but the volatility of REITs has been much closer to that of large-cap stocks than to the more volatile small-cap stocks.
Real estate investment trusts are also a good long-term diversifier. They tend to exhibit return patterns closer to small-cap stocks (correlation of 0.73) than large-cap stocks (0.55), according to the Ibbotson SBBI Yearbook. Relative to fixed income, REITs are uncorrelated to long-term corporate bonds (0.27), long-term government bonds (0.05) and intermediate-term government bonds (0.02). A correlation of 1.0 implies similar return patterns, while a correlation of –1.0 implies opposite return patterns. A correlation of 0.0 implies the return patterns of two asset classes are independent of each other.
These statistics are why I personally invest in REITs. Twenty percent of my 403(b) account [which is similar to a 401(k)] is allocated to the Vanguard Real Estate Index Fund Admiral Shares (VGSLX). AAII’s Level3 Passive Portfolio allocates 10% to the Vanguard REIT Index (VNQ), which is Vanguard’s exchange-traded fund ( version of the aforementioned mutual fund.
Many investors like REITs for the income distributions. Unlike traditional corporations, REITs must invest in real estate and distribute 90% of their taxable income. These distributions are not qualified dividends; rather, they are taxable at each individual investor’s marginal rate when received in a taxable account. Depending on the type of accounts you have and your tax situation, this may or may not be an important consideration when looking at REITs.
AAII’s associate editor Jaclyn McClellan provides a full explanation of what REITs are, including the various types of REITs, starting here. In future articles scheduled to run later this year, she will explain how to analyze these investment trusts to determine which ones might be attractive investment candidates.
The focus of these articles will be on publicly traded REITs. These securities are listed on an exchange and can be bought and sold like stocks and ETFs. We will not be covering non-traded REITs, which have been a source of fraud and investment schemes. Even when a non-traded REIT is legitimately run, it is not easy to sell and can be subject to high fees. If you are pitched a non-traded REIT, grip your wallet tightly. If the pitch is unsolicited, hang up or walk away quickly and without hesitation.
Also in this month’s issue are three of the “Retirement Planning and Investment” columns that adviser and author Julie Jason wrote during and immediately after the financial crisis. Julie handpicked the columns to feature and I thought they were a timely choice since we recently marked the 10-year anniversary of Bear Stearns’ bailout and will mark the 10-year anniversary of Lehman Brothers’ collapse later this year.
As you read her article here, take a moment to think about how you felt and what portfolio actions you were taking in 2008 and earlier. If available, look at your brokerage statements from that time. They’ll shed light on your true ability to handle stock market volatility. If you see transactions that, in hindsight, were a mistake (e.g., pulling out of stocks in January 2009 and waiting too long to get back into the market afterward), think about what you could do differently in the future. It could be segmenting your portfolio based on when you need access to the money, looking at markets less often or finding an adviser you can you talk with when you feel nervous. Anything you can do to improve your process will have long-term benefits.
Wishing you prosperity,
Charles Rotblut, CFA
Editor, AAII Journal