"We house our families in our homes, and we house our
economy in commercial real estate, says Michael
Grupe, head of research at the National Association
of Real Estate Investment Trusts (Nareit). As the economy
grows, the demand for commercial real estate space typically
increases. And that applies to ETFs that track publicly
traded REITs, since real estate ETFs move in line with the
broader economy and their peaks and troughs follow the business
As such, REIT ETFs enjoyed a strong start to 2012, but
recent weeks have seen that performance deteriorate as the
market declined. This has been worsened by the variety of
economic factors that impact real estate ETFs, with office,
industrial, retail and residential property often bound-up in a
The FTSE Nareit All REITs Index, which includes all
types of commercial properties, had a 2012 year-to-date total
return (including dividends) of 9.02 percent on May 31, while
the 50 more frequently traded REITs tracked by the
FTSE Nareit Real Estate 50 Index had a total return
of 8.54 percent. The iShares ETF FTSE Nareit Real
Estate 50 Index Fund (NYSE: FTY) holding those same 50 REITs
returned 8.31 percent for that period.
The year started off very well but REIT ETFs have all
soured over the past month, says Stijn Van Nieuwerburgh,
professor of finance at NYU Stern and director for Sterns
Center for Real Estate Finance Research. Markets have
perceived a higher probability of a macroeconomic
In the short term, REIT ETFs have experienced the same
volatility as most stocks since they are affected by the daily
information flow into the markets. Over the long term, a
lot of that noise tends to wash out, says Grupe.
Individual sectors will tend to reflect the economic
fundamentals that drive that performance.
Overall, REIT performance is heavily dependent on continued
job growth. The REITS have had such a strong rally in
stock prices over the past three years, but theyre
getting fully priced without a lot of job growth, says
Royal Shepard, REITs analyst at S&P Capital IQ.
A majority of REITs hold commercial real estate used for
industrial, office, retail or residential purposes. What
happens in the economy and changes in employment, manufacturing
or consumer spending, for example, can have a direct effect on
REITs holding properties with office space are dependent on
location and employment.
When companies hire, they rent office space. Properties
located in central business districts have clearly outperformed
suburban markets, particularly for energy and technology
sectors. The biggest recovery has been in highest quality
office buildings owned by the public REITs, says Jeff
Spector, REITs analyst at Bank of America Merrill Lynch.
Companies have been renting less space to house the same
number of employees, which may be a permanent change, says
Spector. For fundamentals in this sector to improve, companies
need to spend the cash sitting on their balance sheets.
Suburban office fundamentals have stabilized due to public
REITs luring tenants away from private property owners that are
not well capitalized.
The manufacturing sector is turning around, as demonstrated
by performance of REITs holding properties with industrial
The nation is also experiencing a real rebound in
manufacturing from increased industrial production, says Calvin
Schnure, vice president, Research and Industry Information
at Nareit. REITs owning industrial space have had strong
performance, with year-to-date total returns through May 31 at
The FTSE Nareit Industrial/Office Capped Index
Fund (NYSE: FNIO) ETF year-to-date return through May 31 was
9.08 percent versus the Nareit Industrial/Office
Capped Indexs return of 9.35 percent.
The housing market, and whether people decide to rent or
own, can boost or deteriorate performance for REITs holding
Apartment fundamentals have been very strong over the
past two years, says Spector. People in their 20s have
made a lifestyle choice to rent instead of own because of the
convenience, social factors and mobility. At the same time,
baby boomers are selling their homes and moving into
Apartments have had their good year and are settling
into a strong hold position, says Schnure. Theres a
huge shadow demand due to people who used to live alone but now
share apartments. As employment improves and more households
enter the market, the rental market will become tighter from
limited new construction to meet demand.
You didnt have the same level of overbuilding in
commercial real estate, says Shepard. Theres
an undersupply of properties. This is most prevalent
within residential properties where, on the demand side,
housing is more affordable but people arent buying new
With existing new construction expected completion dates in
2014, many are underestimating the pent-up apartment demand and
time needed to satisfy this demand. Whether this has been
priced into the market is not clear, says Grupe.
The FTSE Nareit Residential Plus Capped Index Fund
(NYSE: REZ) ETF year-to-date return through May 31 was 5.42
percent versus the FTSE Nareit All Residential Capped
Indexs return of 5.64 percent.
The retail sector has stabilized but vacancy rates are still
high, slightly above 10 percent, with improvements in
performance from lower unemployment numbers and increased
consumer spending, says Schnure. REITs tend to purchase the
high-end trophy properties that are performing well. The
retail sector will ride the tides of the economy, says
The FTSE Nareit Retail Capped Index Fund (NYSE:
RTL) ETF year-to-date return through May 31 was 13.17 percent
versus the FTSE Nareit Retail Capped Indexs
return of 13.40 percent.
The liquidity of the REIT [ETF] market ebbs and
flows, says Kevin Quigg, global head of SPDR ETF Strategy
& Consulting at State Street Global Advisors, as this
market is affected by the broader real estate market and U.S.