A home among the gum trees: a guide to property ETFs

by , 19th December 2017

“Why should I buy a property ETF when I already own a house?”

Home ownership is sometimes said to be the national religion of Australia. If there’s one thing Aussies hate more than tipping waiters or letting Englishmen win cricket, its landlords breathing down their neck. Owning your own home gives you freedom and “a place in the world”, as Hannah Arendt put things, like nothing else.

But property is expensive and becoming all the more so. As property prices rise – in Australia, as elsewhere – most now see it as an investment. And not only an investment but as the investment, the most important investment they make.

Which can leave retail investors wondering: why should I buy a property ETF when I already own a house?

The case for property ETFs

One reason homeowners buy property ETFs is speed and simplicity. Buying a house – or an investment property – is a slow arduous process. From cleaning the place to finding a buyer to paying stamp duty – there’s a lot to organise. Then real estate agents, the tax office and lawyers wait with sharpened knives to carve a slice off any final selling price.

But property ETFs get around all this. There’s no stamp duty or rates, no real estate agents or lawyers. Buying on exchange is easier than buying at auction. Topping things off, returns on property ETFs are typically higher.

“A property ETF gives exposure to many commercial properties like offices, industrial properties, shopping centres and property developers as opposed to a single dwelling,” says Arian Neiron, the managing director of Van Eck Australia.

“Yields on the types of properties that an ETF invests in are generally higher than yields on residential property.”

How do they work?

Property ETFs track indexes – like most ETFs. And property indexes are just like any other index: they are a measure of performance. The performance property ETFs usually look at is REITs – real estate investment trusts.

What are REITs?

A REIT is a type of company that specialises in property, usually commercial property that generates income. To classify as a REIT, regulations have to be met. The most important is that a certain amount of a company’s assets must be in real estate. Most major REITs trade on exchange, and buying shares in a REIT gives investors a chance to get some of the rents that tenants pay.

Property ETFs take an index of REITs and buy all the companies in the index – as they do with any other kind of equity ETF.

Properties REITs often own:

  • Shopping Centres
  • Office Space
  • Hospitals
  • Apartments
  • Warehouses
  • Hotels

What are the risks?

As with every investment, property ETFs have risks. These include the fact that prices can go down as well as up. This was demonstrated in dramatic effect during the 2008 property bubble in the US, during which some REIT ETFs lost 75% of their value, compared with the 50% drop experienced by the S&P 500.

One key risk that differs slightly from a regular equity ETF is REIT’s geographic concentration. Property prices across a country tend to correlate over the long-term, but there can be important differences between different parts of that country, especially in the short-term. This can be an issue for ETFs as the largest REITs by market capitalisation also tend to focus on the same major cities within a country.

“Asset classes generally range from low to high risk in the following order—cash, fixed interest, property and shares,” says Tim Sparks, Vanguard Australia’s National Manager Broking & Wealth Management.

“ETF prices can fluctuate within a wide range just like the overall share market, so investors should consider their tolerance for property market ups and downs. Retail REIT exposure is concentrated to predominantly the Sydney, Melbourne and Brisbane market which could be considered as concentration risk.”

The same major city concentration risk is true of property ETFs around the world.

Another potential risk for property ETFs is sectoral. This has been highlighted by the rise of online shopping. Online shopping has powered a rally for warehouse REITs, which provide the facilities that online shops depend on. But many retail REITs, which depend on shopping centres and malls for their income, have found the rise of ecommerce an unwelcome disruption.

Investors considering property ETFs should look at which sectors their ETF focusses on, as well as which geographies. And as with any investment, investors considering property ETFs should always do their research.    

Different types of property ETFs

Plain vanilla

The most common property index used by ETFs, by far, are plain vanilla. These indexes work the same as major stock indexes: list companies by market capitalisation. More than 90% of assets in REIT ETFs around the world track plain vanilla indexes and the biggest REIT ETFs in every country are all of this type.

Domicile Fund Ticker AUM US$M 
US Vanguard REIT ETF VNQ 35,330
Canada iShares S&P/TSX Capped REIT Index ETF XRE 1,080
Australia Vanguard Australian Property Securities Index ETF VAP 810
UK iShares UK Property UCITS ETF GBP Dist IUKP 1,090

Global

Another type is the global REIT ETF. These look out for property investments around the world, not just their home country. It should be noted that REITs, like trusts themselves, are mostly an Anglo-Saxon thing. Thus every major Anglo economy – the US, Canada, the UK and Australia – has a home market REIT ETF that’s highly liquid and cheap. Outside the Anglosphere, REIT ETFs do exist, but they tend not to have the depth or liquidity.

Domicile Fund Ticker AUM US$M
France Amundi ETF FTSE Epra Europe Real Estate UCITS ETF EPRE 31.5
Singapore NikkoAM-StraitsTrading Asia ex Japan REIT ETF AXJREIT 66
US WisdomTree Global ex-US Real Estate Fund DRW 94

Smart beta

Another kind of REIT ETF is smart beta. These are relatively new, having only come to countries outside the US in the past few years. How smart beta ETFs put their indexes together can vary as much as smart beta strategies themselves.

Domicile Fund Type Ticker AUM US$M
Australia VanEck Vectors Australian Property ETF Equal weight MVA 61
US Hartford Multifactor REIT ETF Multifactor RORE 9

Examples include equal weighting, which involves picking REITs and investing equally in each of them – rather than giving the ones with the biggest market cap the most weighting. This strategy helps with diversification and reduces the risk of concentrating too much in one sector or geography.

Another example is multifactor, which use French-Fama factors like quality, value and momentum to pick which REITs are bought and in what weighting. At present, the number of property ETFs that build in factors is low, although that may rise given the swelling interest in smart beta globally.

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