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Diversify With a REIT ETF

By Isaac Schweigert | August 20, 2015

What is a Real Estate Investment Trust (REIT)?

REITs own real estate like shopping malls, apartment buildings, office buildings and even public storage. REITs make it easy for small investors to own real estate and takes away the headache of being a landlord.

One of the main attractions for investors is the steady cash payments that REITs provide. When interest rates declined following the financial crisis in 2008-2009, many investors that would normally invest in bonds for the income turned to dividend stocks, including REITs.

In addition to the income aspect of REITs, real estate also provides strong diversification benefits for a portfolio already holds stocks and bonds. Since 2002, the 5 year correlation between the S&P/TSX Capped REIT Index with the S&P/TSX Composite Index has ranged between 0.23 and 0.76, averaging 0.55. The correlation with Canadian bonds is even more attractive, ranging between -0.02 and 0.34, and averaging 0.12.

Correlation of 1.0 indicates perfect positive correlation, that is, the two investments move in the same direction. Correlation of -1.0 indicates perfect negative correlation, that is, the two investments move in the opposite direction. Correlation of 0.0 indicates that there is no relationship between the two investments.

Rather than just choosing just one REIT, why not buy a basket of them? The easiest way to do that is through a REIT ETF. You can quickly achieve diversification across different classes of real estate (shopping malls/retail, office, residential, and specialty) and geography (Vancouver, Toronto, US, and global) with just one purchase.


Now that you know why REITs should be in your investment portfolio, let’s look at your REIT ETF choices in Canada.


BMO Equal Weight REITs Index ETF (ZRE)

This ETF seeks to track the performance of the Dow Jones Canada Select Equal Weight REIT Index, an index of Canadian REITs where the holdings are held in roughly the same amounts (5-6.5%). This means that you don’t have a large concentration of the investments in one or two REITs like in XRE and VRE, but your exposure to smaller REITs is higher. The REITs held are primarily diversified, retail and residential REITs.

MER TER Bid/Ask Spread Total Cost
0.62% 0.00% 0.16% 0.78%


First Asset Canadian REIT ETF (RIT)

This ETF holds an actively managed portfolio of Canadian REITs, real estate operating companies and corporations involved in real estate-related services. Despite it’s name, RIT is permitted to invest up to 30% of its net asset value in non-Canadian REITs. This ETF was previously a closed-end fund which converted to an ETF on July 14, 2015.

MER TER Bid/Ask Spread Total Cost
1.14% 0.08% 0.30% 1.52%


iShares Global Real Estate Index ETF (CGR)

CGR tracks the performance of the Cohen & Steers Global Realty Majors Index. This ETF is globally diversified; 50% of the investments are in US real estate companies, 12% are from Japan and small amounts in other countries. Canada accounts for 1.2% of the ETF, making it a good choice if you already have exposure to Canadian real estate. This ETF does not hedge its foreign currency exposure. Since this ETF holds primarily non-Canadian investments, most of the income received is foreign income which is subject to withholding tax.

MER TER Bid/Ask Spread Withholding Tax Total Cost
0.72% 0.01% 0.53% 0.38% 1.64%


iShares S&P/TSX Capped REIT Index ETF (XRE)

XRE is the oldest REIT ETF in Canada, having been launched in October 2002. It is also the largest at over $1.2 billion in net assets. This ETF tracks the S&P/TSX Capped REIT Index, where the weight of any one company is limited to 25%. While exposure to any one REIT is capped at 25%, it is concentrated in a few REITs: one REIT is 20% and a second is 15% of the ETF. All investments held by the ETF are Canadian and must be part of the S&P/TSX Composite. The REITs held are primarily diversified and retail (shopping centre) REITs.

MER TER Bid/Ask Spread Total Cost
0.61% 0.00% 0.06% 0.67%


Purpose Duration Hedged Real Estate Fund (PHR)

This is an actively managed ETF that invests in a portfolio of real estate focused companies listed on the major North American stock exchanges. The weight of any one company is limited to 7.5%. What is unique to this REIT ETF is the manager tactically hedges the risk of rising interest rates.  According to their website, as of August 10, there was an interest rate hedge in place on US interest rates, but not for Canadian interest rates. The manager also hedges the currency risk of non-Canadian positions. While half of PHR’s investments are non-Canadian, since it is part of a corporate class structure (it is a class of shares of a corporation) the distributions received are primarily Canadian dividends and capital gains – there is no foreign income and associated withholding tax. This makes it a tax efficient choice, particularly for taxable accounts.

MER TER Bid/Ask Spread Total Cost
0.80% 0.04% 0.20% 1.04%


Vanguard FTSE Canadian Capped REIT Index ETF (VRE)

VRE seeks to track the performance of the FTSE Canada All Cap Real Estate Capped 25% Index. This index is a market cap weighted index of the Canadian real estate sector where the constituents’ weight in the index is capped at 25%. While exposure to any one REIT is capped at 25%, one REIT is 18% of the ETF and a second is 13%. The REITs held are primarily in the industrial, office and retail sectors.

MER TER Bid/Ask Spread Total Cost
0.39% 0.00% 0.14% 0.53%


Those are your choices. Which should you buy?

For a REIT that is only invested in Canada, Vanguard FTSE Canadian Capped REIT Index ETF (VRE) or BMO Equal Weight REITs Index ETF (ZRE) are your best choices. While VRE is 0.25% cheaper on an annual basis than ZRE, two REITs make up 31% of VRE’s investments. If that level of concentration is concerning to you, you should choose ZRE instead.

If you are looking for only non-Canadian exposure, your only choice out of Canadian-listed REIT ETFs is iShares Global Real Estate Index ETF (CGR). This REIT ETF is more expensive than all of the others listed above due to the foreign withholding tax. If this is a concern to you, consider holding it in a taxable account, rather than in an RRSP or TFSA, so that you can claim a credit for the withholding tax when you file your income tax return.

If you are concerned about interest rates rising then Purpose Duration Hedged Real Estate Fund (PHR) might be a good choice for you. Since real estate is often financed by debt, REITs are interest rate sensitive. As well, when/if interest rates rise, the yields on bonds may become more attractive than the yield on REITs. When that occurs, investors that bought REITs for the yield will sell and buy bonds instead, driving prices of REITs down. Purpose uses an interest rate hedge to help protect against rising interest rates.

If you already own stock and bond ETFs, a REIT ETF is a great way to further diversify your investment portfolio and also pick up some additional income.


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Isaac Schweigert

Isaac Schweigert

Isaac is a CFA charterholder and is Portfolio Manager and Chief Compliance Officer at ModernAdvisor. He has over 11 years of investment industry experience, including asset allocation, portfolio management, due diligence, compliance and reporting.