I received the following query by email and I thought I would expand my reply into a post:

Quick question on your asset allocation. Most of it makes sense – Bonds, US/Canadian/International Equities. But why the REIT as a major asset class?

Real estate tends to have a low correlation with other asset classes, so its inclusion reduces the overall volatility of a portfolio. Also, Burton Malkiel notes in The Random Walk Down Wall Street that REITs have produced comparable rates of return to common stocks over the 25-year period from the 1970s through the mid-1990s. REITs also tend to provide an attractive yield (that at least keeps pace with inflation) and are highly liquid. REITs are also well-diversified asset class and own shopping malls, apartments, hotels, retirement residences, office buildings etc. Note that the passive investment portfolio recommended by David Swensen has a 20% weighting in REITs.

However, I do think that REITs are currently overvalued. The iUnits S&P TSX Capped REIT Index Fund (XRE) is currently yielding 5.63% compared to the 4.5% yield of the 10-year bond. The spread is well below historical averages.

This article has 4 comments

  1. Pingback: All Things Financial » Blog Archive » The Carnival of Investing - Issue 2

  2. Ok, so what makes REITs overvalued? And why did they perform so well in the 70’s & 80’s?
    What was the major shift in the mid-90’s?

  3. REITS are part of my portfolio. Riocan (commercial), CAP REIT (residential), and Chartwell (Retirement Homes).

    I don’t think they are overvalued, maybe the actual REITS Mutual Funds are the overvalued.

    Why not just own the individual REITS rather than the Fund?

    • Canadian Capitalist

      Cap REIT’s NAV estimate is $12.20. Chartwell’s NAV estimate is $5.80. Both seem to trade at a significant premium to NAVPU.