How To Focus On A Hot Corner Of The REIT Market

Real estate investment trusts are showing some fortitude this year, but investors considering the exchange traded funds tracking them should do some homework before jumping into the asset class. 

Diversified REIT ETFs, which are the biggest and most popular funds in this asset class, can lack some of the sub-industry exposure that investors want.

What Happened

The Pacer Benchmark Industrial Real Estate SCTR ETF INDS, as its name implies, focuses on industrial REITs, a real estate sub-industry group with stout expectations heading into 2019. INDS, which debuted in May, targets the Benchmark Industrial Real Estate SCTR Index.

Traditional REIT indexes often lack exposure to industrial REITs. For example, the MSCI US Investable Market Real Estate 25/50 Index and the Dow Jones U.S. Real Estate Index have industrial REIT weights of just 6.4 percent and 5.58 percent, respectively.

The e-commerce boom is one of factors bolstering the case for focusing on industrial REITs via INDS.

“First and foremost, what is fascinating it that e-commerce accounts for less than 10 percent of overall retail sales but is growing 16 percent year-over-year for the last five years,” Kevin Kelly, managing partner at Benchmark Investments, said in an email. “Since e-commerce has grown from 5 percent of overall sales in 2012  to less than 10 percent, industrial REITs have had an excess return of 6.37 percent per annum, an alpha of 5.62 and a lower downside capture.”

Why It's Important

One of the main reasons INDS is well-positioned to benefit from the e-commerce boom is simple: space. Online retailers require much more warehouse space than their brick-and-mortar rivals.

“The insatiable e-commerce demand to receive packages in a day or less has led to an era of ‘last mile’ revolution.  It’s an arms race for space,” said Kelly. “Online retailers require about three times the warehouse space of traditional brick-and-mortar stores, and more sophisticated logistical service.”

Based on funds from operations, the common REIT valuation metric, industrial REITs — including some residing in INDS — command premiums relative to the broader REIT universe.

“The larger premiums to the overall REIT group are justified in our view given where industrial cap rates (for high-quality assets) stand in the private market and our REITs’ platforms and opportunities,” Kelly said.

INDS holds 23 industrial REITs that had a dividend yield of 3.69 percent at the end of third quarter. The industrial REIT ETF is up 5.63 percent since inception, making it one of the best-performing REIT ETFs over that period.

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