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Portfolio > Portfolio Construction

Can REITs Make Your Client Portfolios Complete?

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Many of the wealthiest families in American history, such as the Astors and the Trumps, built their wealth through real estate investing. There are numerous investment experts and articles upon articles pointing to real estate as building wealth more consistently than any other asset class. With real estate investments being more accessible than ever before, it’s time for you to consider incorporating real estate investment trusts into your client portfolios. Let’s take an in-depth look at REITs: types of REITs, benefits, risks and more.

As you can see in Figure 1, the composition of a household’s net worth often is anchored by real estate, whether in the middle class or ultra-rich. In Edward N. Wolff’s paper, “Household Wealth Trends in the United States, 1962 to 2016: Has Middle Class Wealth Recovered?”, the middle class’ primary source of wealth in 2016 was their primary residence (62%). The ultra-rich, on the other hand, have a much higher percentage of their wealth in business equity and other real estate (49%), while a small percentage of their wealth is in their primary residence (7.6%).

Figure 1 - Source: Edward N. Wolff’s (2016), “Household Wealth Trends in the United States, 1962 to 2016: Has Middle Class Wealth Recovered?”, The Ultra Rich Net Worth $10.257M+, Upper Income Net Worth $471K - $10.257M, Middle Income Net Worth $0 - $471K

Through product innovation, gaining exposure to REITs has become a much more attainable and attractive option for the average investor. There have been significant advancements in mutual funds, exchange-traded funds and separately managed accounts (SMAs) that make REITs a realistic and viable consideration.

Below, we look at some of the different REIT investment vehicles, the benefits and risks to investing in them, and some of the top performing REIT managers found in the PSN SMA database.

Each type of investment vehicle has its own risks; for example, an accredited investor may gain exposure to REITs through a limited partnership that includes tax benefits, however, they are also illiquid. Conversely, a REIT mutual fund is liquid and allows average investors the ability to gain exposure to the asset class; however, they are exposed to market risk.

Additionally, REITs are not created equal, and it is important to understand the investment objective of each strategy. For example, some REITs may hold leisure properties like ski resorts, golf courses and hotels that may perform better during an economic expansion. Others may invest in commercial real estate like office buildings, warehouses and storage facilities, which might be able to withstand an economic slowdown better than other properties. Other REITs may invest in a combination of property and mortgages or loans.

The primary benefit to investing in REITs is the reliable high interest payments. REITs are required to pay out at least 90% of their taxable income to shareholders annually. With bond yields continuing to trend lower, the yield on REITs will become more attractive to income seekers. While 10-year Treasuries are yielding less than 1.60% and 30-year Treasury yields are at historic lows, the FTSE Nareit All Equity REITs index is yielding 3.69%.

In addition to their consistent interest income, REITs are a good diversifier within client portfolios. As you can see in Figure 2, over the past 20 years, REITs have an average correlation of 0.23 to bonds (Bloomberg Barclays U.S. Aggregate index) and 0.57 to equities (S&P 500 index).

Figure 2- Source: Zephyr StyleADVISOR

Despite the benefits, risks loom. The attractive yields and low correlations are primary reasons to include REITs in a client portfolio. However, it is important to consider the risk/return characteristics of the asset class. As you can see in Figure 3, REITs have experienced a higher return, but the risk has been considerably higher than the S&P 500 index over the past 20 years.

Figure 3- Source: Informa Financial Intelligence Zephyr Platform

Also, REITs have held their own compared to the other major indexes (Figure 4) on an absolute return basis. In fact, REITs have outperformed the other major indexes eight of the past 19 full calendar years.

Figure 4- Source: Informa Financial Intelligence Zephyr Platform

Thanks to product innovation that has made REITs more accessible to the average investor, there is a growing number of REIT strategies available to investors. Below are some of the strategies that made up the PSN Top Guns REIT Universe in the second quarter of 2019.

Figure 5 - Source: Zephyr Platform. Monthly data from June 2009 - June 2019

Incorporating REITs into client portfolios offers benefits, namely consistent interest payments during this low interest rate environment and diversification. But keep in mind that, as with any investment, there are risks that must be considered when incorporating REITs in client portfolios.

Is it time to ask yourself whether you’ve completed your client portfolios with REITs?


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