Having just passed the one-year anniversary of the 2020 bear market low, the equity market recovery has played out largely how one might expect coming out of an economic trough. Stocks have come roaring back. Riskier asset classes, including cyclicals, high beta stocks and small-caps, have outperformed while low volatility and defensive issues have lagged.
The real estate sector has been one of those laggards and it’s easy to see why. REITs are dependent on rents and mortgage payments to generate income. If you don’t have those, the value of REITs sink. As businesses folded and mortgage forbearance programs were offered to many, the once predictable income streams became very uncertain.
However, it looks like the worst may be over. Forbearance rates are still high compared to historical norms, but they’ve been steadily coming down. Armed with stimulus cash and low interest loans, consumers and businesses should be able to begin resuming monthly payments as normal and return the real estate sector back closer to what it once was.
I don’t think that means necessarily investing in a broad real estate ETF. Sure, that’ll do the job in getting you exposure to the sector, but there’s a lot of hit or miss potential under the surface. Mall REITs, for example, are likely to continue struggling even after the economy rebounds. Who knows what will happen to office REITs since so many workers and businesses have gotten used to the new remote work economy. Even things, such as hospitals and healthcare facilities, could face a great deal of unknowns.
That’s why I believe it makes sense to target your real estate investing down to the sub-sector level. Here is where you can narrow down your choices to those areas of the market that could especially benefit from the global economic recovery as well as broader trends that will be evolving over time.
Based on where I think the economy is heading, here are my 3 favorite targeted ETF strategies for investing in real estate.
Pacer Benchmark Data & Infrastructure Real Estate SCTR ETF (SRVR)
I think the investment case for SRVR is pretty straightforward. Infrastructure is going to be a major theme throughout the 2020s and a lot of investment is going to be made into this sector. With the latest stimulus bill now complete, the Biden administration is already crafting its infrastructure bill, which could approach $3 trillion in total. It would likely target things, such as roads, railways, bridges, clean energy and telecommunications equipment.
The latter piece is particularly attractive. There is a big push to advance the development of 5G capabilities on a widespread scale. That alone could require a significant investment, but it’s where the world is headed and could be a strong growth play over the next several years.
SRVR targets REITs whose tenants include wireless carriers, broadband providers, government agencies, cloud providers, internet media and communications companies. These are the businesses that can also lead the way in the development of the blockchain, artificial intelligence, the internet of things and augmented reality. Top holdings currently include American Tower, Crown Castle, Equinix and Iron Mountain.
Income investors might look at SRVR’s 2.3% yield and decide it’s not worth the trouble. True, SRVR is one of the lower-yielding options in the REIT space, but this is more about growth than income. Certain sectors within the real estate space are more mature and focus on income generation. The infrastructure space is more about funneling cash into growing their businesses instead of producing income. This ETF might be a nice augment to a traditional real estate ETF, but won’t be a big yield generator on its own.
Hoya Capital Housing ETF (HOMZ)
If you want exposure to the booming U.S. housing market, why limit yourself to just residential REITs? There’s so much that falls under the umbrella of “housing” that it may make more sense to use an ETF that covers all aspects of the housing market.
HOMZ does just that. According to its website, “HOMZ invests in 100 domestic companies involved in the housing industry including residential REITs, homebuilders, home improvement companies, and real estate services and technology firms.” With part of the portfolio, you get that traditional REIT coverage, but you’re also investing in all those companies that indirectly benefit from the housing market. Think of companies, such as Home Depot, Lennar, home furnishing providers, mortgage lenders and others.
I’ve been a fan of HOMZ for a while due to its diversified structure and this year it’s paid off. The fund is up more than 13% year-to-date compared to 6% and 7% returns of the real estate and mortgage REIT sectors, respectively.
The 1.9% yield also won’t get income seekers very excited, but HOMZ is only 30% invested in REITs, so it should be expected.
NETLease Corporate Real Estate ETF (NETL)
NETL is a better option for yield and currently pays about 4%. Net leases are an interesting way to approach real estate investing. According to the website, “Net Lease REITs are equity REITs that own properties leased to single tenants under long-term, net lease agreements which specify that, in addition to rent, the tenant is responsible for most, if not all, property expenses. The most common net lease is a “triple-net lease” which requires the tenant pay property taxes, insurance, and maintenance – the three nets in a lease agreement.”
Among the benefits of investing in net leases include more predictable cash flows, the deductability of certain income distributed by REITs, an inflation hedge and rent escalation provisions in leases that may help income grow and keep pace with inflation.
NETL’s top 4 sector allocations include industrials, retail, hotels & gaming and restaurants. I’m not a big fan of the allocation to retail, but the other sectors should, theoretically, do well in the economic recovery.