Are REITs underrepresented in your clients' portfolios? Commercial real estate represents 14% of the U.S. investment market.

 

Are REITs underrepresented in your clients’ portfolios?

2021 Quickfacts Chart 1 - Real Estate is 3rd largest asset class

If you are among the 83% of financial professionals who recommend the use of REITs1, you recognize that:

In addition to stocks, bonds and cash, commercial real estate is a fundamental asset class representing 14% of the U.S. investment market2

REITs are a low cost, effective and liquid means of investing in this asset class, allowing your clients to build a diversified portfolio that covers the entire U.S. investment market

Commercial real estate can bring unique attributes to a portfolio including:
1. A distinct economic cycle relative to most other stocks and bonds
2. Potential inflation protection
3. Reliable income returns3

 

The advantages of investing in REITs

2021 Quickfacts Chart 2 - Key performance stats

The REIT approach to real estate investing provides investors with a straightforward and transparent means to access a fundamental asset class in order to pursue distinct goals.

Performance — The real estate market is the primary driver of REIT returns, therefore REITs may be used as a liquid proxy for gaining access to the entire commercial real estate asset class2

Liquidity — Bought and sold like other stocks, mutual funds and ETFs

Diversification — Low correlation with other stocks and bonds4

Dividends — Reliable income returns3 driven by high and growing income from rents plus capital appreciation over time

Inflation Protection — Due in part to the fact that many leases are tied to inflation and that real estate values have tended to increase in response to rising replacement costs

 

How to diversify your portfolio using REITs

Over the past few decades, assets have become increasingly correlated. This has challenged advisors to identify investments to better diversify their clients' portfolios. Fortunately, REITs provide them access to meaningful diversification opportunities.5 In fact, according to Chatham Partners' research, the vast majority (83%) of advisors now invest their clients in REITs and the most frequently cited attribute they cite is "portfolio diversification."1 Following are illustrations of the low correlation REITs have with the broad stock market and how they can improve a portfolio's risk-and-return profile.

2021 Quickfacts Chart 3 - REIT correlation with stock market

Considering the impact on risk-and-return profiles

Morningstar has found that adding an allocation of REITs to a hypothetical portfolio:

  • Increased returns without increasing risk (1972-2020)5
  • Added meaningful diversification—other stocks are subject to the business cycle while REITs represent a separate and unique asset class subject to the real estate market cycle
Quickfacts chart 4 - risk and return profiles

What is an appropriate allocation to REITs?

2021 Quickfacts chart 5 - Appropriate reit allocation percentages

The answer will vary based on each investor’s goals, risk tolerance and investment horizon, but here are some key insights that can help:

Multiple studies have found that the optimal REIT portfolio allocation may be between 5% and 15%.6

David F. Swensen, PhD, noted CIO of the Yale endowment and author of Unconventional Success: A Fundamental Approach to Personal Investment, recommends a 15% allocation to REITs for most investors.

Further insight comes from Chatham Partners' research which found that advisors recommend allocations to REITs in the range of 4% to 12% – irrespective of the client's age – from early career to in retirement.1

 

How does age affect the optimal REIT allocation?

As this Wilshire Funds Management Glide Path Model shows, an optimal allocation for certain investors could start at 15%+ for an investor with a 45-year investment horizon, gradually declining to 7%+ at retirement and 6%+ after 10 years in retirement.7

Glide path to REIT Investing

REIT utilization among financial advisors

As the risks and opportunities for investors continue to unfold, a majority of advisors continue to agree on the underlying long-term fundamentals that support inclusion of REITs within a diversified portfolio.

Quickfacts chart 7 - 80% of FA's recommend REITs

Research from Morningstar® on REIT performance

Here’s what these Morningstar® Fact Sheets reveal about past REIT performance for the 49-year period ending December 31, 2020 (the longest period for which data are available):

  • Largest increase Compared to bonds, T-bills and other stocks, REITs provided the largest increase in wealth in over 49 years.
  • Increased returns Adding REITs to a hypothetical portfolio increased returns with no increase in risk.
  • Extended lifespan Adding REITs to a hypothetical portfolio reduced the risk of outliving assets for retirees.

Download a PDF of this Quick Facts Guide.


Additional Resources

How REITs Work

This whiteboard video provides insight into what REITs are and how they work. Watch the video to learn more about the rules that govern REITs and how they operate.


Disclaimer

1. Source: Nareit sponsored REIT Utilization Study of 349 financial advisors by Chatham Partners, LLC, March 2021

2. Sources: Stock and bond data from Board of Governors of the Federal Reserve, Financial Accounts of the United States, 2020Q4; commercial real estate market size data based on Nareit analysis of CoStar property data and CoStar estimates of Commercial Real Estate Market Size, 2020Q4.

3. Source: CEM Benchmarking, 2020, available at /data-research/research/updated-cem-benchmarking-study-highlights-reit-performance

4. Source: Nareit sponsored study by Wilshire Funds Management – Income Oriented Portfolios – Challenges and Solutions, October 2016

5. Source: Nareit, FactSet. Data as of December 2020. Total Stock Market: Dow Jones U.S. Total Stock Market Index; Large Cap: S&P 500; Mid Cap: S&P 400; Small Cap: S&P 600; Growth: Russell 1000 Growth; Value: Russell 1000 Value; Tech: Nasdaq Composite; International: MSCI EAFE; REITs: FTSE Nareit All Equity REIT Index.

6. Examples of studies within the stated range include: Ibbotson Associates, Morningstar, and Wilshire Funds Management.

7. Source: Nareit sponsored study by Wilshire Funds Management, 2020 – The Role of REITs and Listed Real Estate Equities in Target Date Fund Allocations. Large- cap stocks – Wilshire U.S. Large Cap Index; Small-cap stocks – Wilshire U.S. Small Cap Index; International stocks – MSCI EAFE Index; Emerging Market Equities – MSCI Emerging Markets Index; U.S. bonds - Barclays U.S. Aggregate Bond Index; Non-U.S. bonds – Citigroup Non-USD World GBI; U.S. REITs – FTSE Nareit All Equity REIT Index.