As one of the primary causes of the recent financial crisis and economic downturn, real estate has been hit hard since 2008, with a variety of REITs struggling to find financing for new projects, tenants for old buildings, and the cash to pay for operations. While many names in this sector have plunged, others have survived and have managed to avoid the worst of the recession. Companies in this group have propelled ETFs in the Real Estate ETFdb Category and the Global Real Estate ETFdb Category to broad market-beating gains so far in 2010. In fact, the most popular ETFs in each category have beaten SPY by an average of 760 basis points since the start of the year, further underscoring the budding recovery in the real estate market.
However, many are forecasting that this recent surge will be short lived and that the global real estate market will again slump in the near future. Among the most well-known and respected organizations that are predicting a return to real estate market stagnation is the International Monetary Fund (IMF). The important global organization said in a recent report that prospects for the global real estate sector are “dismal” and that it could take as long as eight years for markets to fully recover from their recent malaise.
The organization cites severe weakness in American markets, which seem likely to stagnate for the foreseeable future as households get their balance sheets in order and refrain from buying homes in order to satisfy more immediate concerns such as finding jobs. “Especially in the United States, given the limited success of mortgage modification programs and the shadow inventory from foreclosures and delinquencies, this has renewed fears of a double dip in real estate markets. A lot will depend on the path of economic recovery: if employment creation remains low, risks of a double dip in housing naturally increase,” the IMF said in its report [see Time For A Real Estate ETF?].
This gloom is not limited to residential markets either, as the IMF also sees trouble in the commercial real estate markets as well. Record high delinquency rates on commercial mortgage-backed securities, and the $566 billion in commercial real estate debt due this year and next, according to data the IMF cited from Foresight Analytics, will be major obstacles for commercial real estate, which makes up the majority of most REIT holdsing. “I call it a slow-motion train wreck,” James Sprayregen, a restructuring partner at law firm Kirkland & Ellis, said in New York. “That’s probably where I think you’re going to see more action than anything over the next 24 months.”
The prediction for weakness extends far beyond American shores. In fact, the Washington D.C.-based organization sees weakness in both the “bust” countries, such as the UK, Spain and Ireland, and those that have managed to rebound quickly, such as the Asia-Pacific region, most Scandinavian countries, and Canada. Clearly the IMF is not predicting a return to prosperity anytime soon in this hard hit industry and investors should be prepared to endure years of sub-par growth if the IMF turns out to be right on real estate. In light of this report, we profile three ETFs that investors should keep their eyes on if this gloomy IMF prediction comes to fruition:
Vanguard REIT ETF (VNQ)
Don’t let the recent strength in the U.S. real estate market fool you. “Uncertainties surrounding the U.S. housing market and the risks of a ‘double dip’ in real estate markets remain high,” says the IMF report. Thanks to these worries, investors should keep a close eye on VNQ, which is by far the most widely-held ETF in the category with close to $6.5 billion in assets under management. The fund tracks the MSCI US REIT Index, a benchmark of U.S. property trusts that covers about two-thirds of the value of the entire U.S. REIT market, and has surged by more than 20% so far in 2010. The fund has 100 holdings in total and has large weightings towards mall owner/operator Simon Property Group, Public Storage, and Vornado Realty Trust [also read Believe It Or Not U.S. Real Estate ETFs Crushing International Counterparts].
Guggenheim China Real Estate ETF (TAO)
An increasingly popular choice for investors seeking real estate investments has been the nation of China, which is seen as one of the main drivers of economic growth in the current environment. Local officials have been monitoring the situation closely and seem poised to prevent a bubble from developing. “In China, measures taken by the authorities have helped engineer a slowdown in the local real estate and credit markets, even though a precipitous decline in property prices may increase risks to the local banking system,” said the IMF report. These measures, which include increasing minimum down-payments for larger homes, discouraging lending to third home buyers, and a reduction in maximum loan to value ratios, look likely to help keep the Chinese real estate market from overheating.
TAO holds 41 securities in total with 73/27 split in terms of REITs in Hong Kong as opposed to the mainland. Despite relative strength in the Chinese equity markets, TAO has underperformed as of late, posting a gain of about 11% so far in 2010. However, the fund has surged by close to 20% in the past 13 weeks as investors have further piled into the Chinese economy, shunning more traditional real estate markets [see China Real Estate ETF In Focus: Will The Bubble Burst?].
SPDR DJ Wilshire International Real Estate Fund (RWX)
For investors concerned about concentrating their positions in any one region of the real estate market, RWX presents an interesting choice. The fund’s top three country holdings go to Australia, Japan, and Hong Kong, which should guarantee that at least some of the fund’s holdings take part in the current Asia-Pacific regional boom. Yet even this is not without risk thanks to rising vacancy rates across the region and massive capital inflows that have pushed up prices everywhere from Beijing to Jakarta. The fund also offers reasonable allocations to the UK and France as well, but these markets seem likely to slosh along thanks to an increased focus on austerity measures, which although likely to benefit the countries in the long-term seem destined to rock property markets in the near future in these slow growing markets.
RWX tracks the Dow Jones Global ex-U.S. Real Estate Securities Index, a float adjusted market capitalization index designed to measure the performance of publicly traded real estate securities in developed and emerging countries excluding the United States. The fund holds 129 securities in total and has performed well so far in 2010, jumping higher by about 15% since the start of the year [also read The Definitive Guide To Real Estate ETFs].
Disclosure: No positions at time of writing.