Since the Great Recession of the last decade, many have said that the era of American economic dominance is over. But as we begin 2015, all the numbers and indicators show this isn’t the case. U.S. equities are predicted to be the best performers among all of America’s international peers.
However, U.S. markets might not see completely smooth sailing in 2015. The rest of the world is experiencing a host of issues, and these factors very well could introduce a lot more volatility to the markets than we’ve seen in recent years.
One way to counteract the ups and downs of the market would be to invest in real estate investment trusts — and an easy way to do invest in REITs broadly is via the Vanguard REIT Index Fund (VNQ).
What’s Wrong With the Rest of the World?
The elephant in the room is sinking oil prices — namely, no one knows how low they’re going to go. The Saudis are using production as a geopolitical power play against the Iranians and Russians, which could cripple both economically. Simultaneously, OPEC’s leaders are playing a game of chicken against U.S. shale producers to see who can keep up production longest without cutting back.
Also sending prices lower has been slumping demand from regions including the European Union, Japan and China — all signaling economic slowdowns.
Lastly, the U.S. dollar is at multiyear highs — good for our purchasing power, but bad for U.S. multinationals who derive much of their revenues from abroad, where local currencies are faltering.
Why REITs?
REITs are corporate structures that primarily invest in and/or get their revenue from real estate holdings. They get special tax treatment, but in turn, the IRS requires that they pay out no less than 90% of their income in dividends.
During highly volatile times, REITs have proven to be one of those sectors that hold firm. Their business structure — essentially collecting rent — helps them offer some stability in earnings. And focusing on U.S. REITs can provide a hedge against international risk while benefiting from forecast American growth.
That stability sounds awfully good when you consider that 2015 has started as the year of market unpredictability. Every day this year, the market has been up or down by at least 100 points. The CBOE Volatility Index, or VIX — an index that measure implied volatility in the S&P 500 — is nearly up 10% for the new year.
The VNQ itself is designed to track the performance of the MSCI U.S. REIT Index, which covers about two-thirds of the value of the entire U.S. REIT market. This includes top holdings such as Simon Property Group Inc. (SPG), Public Storage (PSA) and Equity Residential (EQR). VNQ had a great 2014, smashing the broader markets with a 30% gain.
But VNQ isn’t just about the potential for performance — it also acts as a good source of income, with the fund yielding 3.3% even at all-time highs. That’s a lot better than the benchmark 10-year Treasury, which is yielding less than 2%.
And you get this 1-2 punch of performance and yield for just 0.1%, or $10 for every $10,000 invested.
Now, many out there will say that 2015 might be a lesser year for VNQ. REITs benefited from a low-interest-rate climate and a recovering economy in 2014, and the market as a whole was dominated by a low-volatility landscape.
But even if the Federal Reserve raises rates this year, it doesn’t spell doom for the REIT market. Rising interest rates are something of a catch-22 for REITs — while it might cost more for developers and builders to borrow, rising rates also are a sign of a strengthening economy, which can mean better tenancy rates and the ability to charge higher rents.
Bottom Line
While the market might be fidgety about how interest rates could end up affecting REITs, VNQ and its holdings should be able to weather the storm in 2015. Meanwhile, a continuously improving economy only means good things for REITs and their tenants.
VNQ is a solid holding for 2015 — and a cheap one, at that.
As of this writing, Jason Jenkins did not hold a position in any of the aforementioned securities.
