Investing in REITs has faced significant hurdles in 2023, primarily due to the interest rate hikes. The fundamental reason behind this difficulty is straightforward: REITs rely on borrowed funds to acquire properties, and higher interest rates translate to increased financing costs, resulting in reduced dividends for unit holders, which in turn make REITs less attractive to yield seekers.
In more favorable times, when interest rates were low, profiting from REITs seemed relatively simple. However, the current environment, characterized by rising interest rates and a sluggish economic growth pace, has exposed vulnerabilities within the REIT market.
Notably, two REITs—Manulife US REIT and Dasin Retail Trust —have witnessed substantial share price plunges exceeding 50% in the span of a year, serving as a startling revelation to investors that REITs are susceptible to significant declines.
Despite recent subpar performance, REITs continue to be a viable long-term investment option. This resilience is attributed to the enduring significance of real estate in the economy, coupled with REITs helping investors in becoming a landlord without the burdensome property management responsibilities.
It is important for investors to distinguish between high-quality and lower-quality REITs but instead of picking the right REITs, which can be a challenging task for some investors, it might be easier to buy a REIT ETF.
Simplify Your REIT Investments and Reduce Stress
Like REITs, ETFs are a great invention too. They enhance transparency and convenience for investors by simplifying the process of buying and selling funds on stock exchanges.
Furthermore, when it comes to gaining exposure to a diversified collection of securities, ETFs could possibly come with reduced costs in comparison to purchasing the same set of individual stocks. To illustrate, if you were to invest $20,000 in 20 REITs separately, you’d be subject to brokerage fees totaling $200 at a $10 commission rate per transaction. Conversely, opting for a REIT ETF could grant you the desired diversification with just a single transaction fee of around $20. Assuming a 0.5% expense ratio, a $20,000 ETF investment would result in an additional cost of $100. In scenarios like this, it is possible that the ETF investment might prove to be a more economical choice compared to acquiring a large number of REITs individually.
While REITs eliminate the need for managing physical properties and tenant-related concerns, a REIT ETF automates the selection of REITs based on specific criteria, further streamlining property investment.
There are 38 REITs traded on the Singapore Exchange (source: SGX) and one would need to understand factors such as capitalization rate, strength of sponsors, gearing ratio, debt maturity profile, weighted average lease expiry and more when analyzing REITs. However, a REIT ETF significantly reduces these requirements, enabling investors to enter the REIT market without mastering the intricacies of REIT analysis.
This is because REIT ETFs typically invest in a diversified portfolio of REITs, reducing exposure to a few specific ones. While a concentrated portfolio can yield higher returns, it can also result in significant losses if the selections go awry. Recent declines of more than 50% in some REITs (examples of Manulife US REIT and Dasin Retail Trust were mentioned above) serve as a stark reminder of the potential costs of such mistakes. A well-diversified REIT ETF mitigates these impacts.
Lastly, it’s crucial to address a commonly overlooked aspect of investing: human psychology which often leads to a reluctance to sell stocks or REITs at a loss due to loss aversion bias. This bias can prevent investors from making rational decisions and recognizing their mistakes. But good portfolio management requires investors to recognize their mistakes, cut losses and move on to better opportunities. In example cases where a REIT experiences a 70% drawdown, emotions can cloud judgment, making it challenging to take appropriate action.
A REIT ETF may alleviate this problem as REITs are bought and sold according to the index rules, thereby reducing the emotional burden associated with holding poor performing REITs.
Selecting a REIT ETF
In choosing an ETF, I look at a handful of criteria. Firstly, the ETF manager and the index it mirrors must be reputable and possess a good track record. Secondly, the fund size should be large enough so that the risk of the ETF discontinuation is low. Lastly, the ETF’s expenses should be competitive when compared to other similar ETFs within its category.
The SGX (Singapore Exchange) offers a variety of SGD and USD-denominated REIT ETF options. Notably, as of September 13, 2023, the NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) holds the largest Assets Under Management (AUM). The expense ratios of these REIT ETFs are generally similar, falling within the range of 0.3% to 0.6% (source: Nikko AM). Interestingly, the smaller REIT ETFs tend to have lower fee structures. It seems apparent that investors didn’t make their REIT ETF selections based solely on cost considerations.
I think there’s always something done right with the largest ETF so we will direct our attention to NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) in this case. This ETF is managed by Nikko Asset Management Asia Limited (Nikko AM), in the Nikko Asset Management Group, a global asset manager headquartered in Japan with a robust history spanning more than 60 years and currently overseeing group assets totaling US$219 billion. I believe that Nikko AM possesses the expertise and qualifications to effectively oversee a REIT ETF.
The ETF is designed to replicate the performance of the FTSE EPRA Nareit Asia ex Japan REITs 10% Capped Index. FTSE is renowned as one of the world’s three major indexing companies, while EPRA and Nareit are globally respected real estate associations. This collaboration has a storied history, with the inception of the FTSE EPRA/Nareit Global Real Estate Index Series dating back to October 2001. As of January 29, 2021, this series encompassed 490 publicly traded real estate companies from 39 nations, with an equity market capitalization of approximately $1.7 trillion (source: FTSE Russell). Therefore, with this in mind, investors may have confidence in the credibility of this index.
The FTSE EPRA/Nareit Global Real Estate Index Series employs specific criteria for selecting REITs. In essence, these indices seek out larger, reputable REITs that offer high liquidity and are structured in a manner favorable to unit holders
The FTSE EPRA Nareit Asia ex Japan REITs 10% Capped Index primarily comprises substantial REITs, excluding those listed in Japan, Australia, and New Zealand. As of 31/8/2023, this index included 43 REITs with a portfolio yield of 6.47% (source: FTSE Russell.)
As of 31 Aug, 2023, NikkoAM-StraitsTrading Asia ex Japan REIT ETF’s top 10 holdings accounted for 62.8% of its portfolio (source: Nikko AM). These holdings feature prominent, well-established REITs that may be familiar to investors, such as CapitaLand and Mapletree-managed REITs. Notably, the ETF also holds Asia’s largest REIT, Link REIT. These holdings in large and reputable REITs are likely to instill greater confidence in investors.
In summary, I believe that NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) possesses the characteristics of an appealing REIT ETF, which may explain its popularity among investors and its status as the largest SGX-listed REIT ETF to date.
Addressing Common REIT ETF Concerns
Why should I pay a management fee when I can buy the REITs myself?
This perspective holds if you possess the expertise and the time to individually select REITs. However, 2023 has underscored the importance of recognizing the complexities and risks associated with REITs. It’s not merely about acquiring properties; it involves comprehending the evolving demands of the real estate market, responding to interest rate fluctuations, and assessing the stability of sponsors. I see that many investors prefer to avoid grappling with these intricate issues and analyses, making REIT ETFs more attractive. The fee spent on professional management to replicate a REIT index becomes well worth the time saved.
Are dividends taxed?
Another concern among investors is the potential taxation of dividends when purchasing an ETF. Fortunately, in 2018, the Singapore government extended tax transparency treatment to Singapore-listed REIT ETFs, ensuring that dividends are not subject to taxation at the ETF level. Nikko AM has held tax transparency treatment status since July 1, 2018 (source: Nikko AM).
Will REITs recover?
REITs have performed poorly over the past few years. But this doesn’t imply that REITs are obsolete. Particularly considering the enduring human need for physical spaces to live, work, and engage in recreational activities, REITs remain relevant. They are essentially equities, and like all equities, their prices can fluctuate as part of the economic cycle. By taking a long-term perspective, given the cyclical nature of REIT investments, I believe that better returns can be anticipated in the future. However, as a disclaimer, the inverse may also be true as returns are not guaranteed.
CPFIS and SRS approved + monthly investment plans available
An even more compelling advantage is that the NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) is among the six approved ETFs and the sole REIT ETF approved under the CPF Investment Scheme. This opens up the opportunity to utilize investors’ CPF funds for investments, potentially yielding higher returns.
However, it’s important to note that, as equities, this REIT ETF will experience market fluctuations, and it doesn’t guarantee outperforming the CPF Ordinary Account interest rates every year. Therefore, a long-term investment horizon is advisable, requiring at least a five-year commitment to increase the likelihood of weathering market downturns.
Additionally, investors may also use their Supplementary Retirement Scheme (SRS) monies to invest in NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) too.
The good news extends to investors who prefer to employ dollar-cost averaging (DCA). DCA proves valuable in a market experiencing declines, such as the current trend in REITs. Rather than attempting to predict the market bottom, one can opt for DCA, potentially buying more ETF units if prices continue to drop, thereby reducing the average buying price.
For investors interested in a monthly investment plan, applications can be made through DBS/POSB, FSMOne, and Phillip Capital.
Investing in REITs Can Be Made Easier With ETFs
Ultimately, an investor’s primary goal is to grow wealth. While picking individual REITs can be a profitable approach, it demands a certain level of skill and knowledge. Otherwise, selecting the wrong REITs and over-concentrating can result in substantial losses.
This is where entrusting an ETF manager to invest in REITs on your behalf for a reasonable fee can provide a more straightforward and less stressful path. All the complexities of portfolio management, buying and selling decisions in accordance with the index changes, as well as rebalancing, are handled on your behalf.
The NikkoAM-StraitsTrading Asia ex Japan REIT ETF (CFA) holds the distinction of being the largest REIT ETF in Singapore to date, offering broader diversification beyond the local market. Moreover, it facilitates convenient investment through CPF, SRS, or monthly investment plans, providing further flexibility to the investors.
This article is sponsored by Nikko AM, but the opinions expressed herein belong to the author.
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