Todd Rosenbluth is director of ETF and mutual fund research at CFRA.
Location, location, location. Just like with a house or an apartment—where you have put money to work in real estate—securities can make a big difference.
The S&P 500 Real Estate sector was up 8.2% year-to-date through August, but popular Vanguard sector funds are lagging behind. While the lack of exposure to strong-performing specialty REITs have hurt Vanguard, the firm is likely to begin a move to a new, more inclusive index in 2018.
Given the $65 billion in assets in the Vanguard mutual funds and ETF classes, such a move could have a significant impact.
In July, Vanguard filed a preliminary proxy statement with the SEC seeking shareholder approval to change the investment objective for the Vanguard REIT Index Fund, which would result in a change in its benchmark.
Expanding The Investable Universe
“The proposed changes to the investment objective and benchmark will expand the investable universe beyond REITs, thereby broadening investors’ exposure to the real estate sector,” explained Jon Cleborne, principal at Vanguard Portfolio Review Group. “This will ensure long-term accessibility to investors, and aligning the REIT fund with Vanguard’s other sector funds.”
The future benchmark is the MSCI US Investable Market Real Estate 25/50 Index, which includes real estate services and development companies in addition to REITs. Certain prominent specialty REITs not in the current MSCI US REIT Index are in the proposed index. Following shareholder approval, Vanguard would begin using a transition index, likely in early 2018, for the subsequent six months to reduce the transaction cost impact.
The change will align the Vanguard REIT Index with the updated GICS [Global Industry Classification Standard] methodology for classifying global market sectors used by S&P and MSCI. Vanguard’s 10 other sector index funds, such as the Vanguard Financials ETF (VFH), currently seek to track MSCI benchmarks under this methodology; MSCI carved out REITs from its financial sector indices in September 2016.
The Vanguard REIT ETF (VNQ) has $34 billion in assets, significantly more than the $2.5 billion in the Real Estate Select Sector SPDR Fund (XLRE), which tracks the aforementioned S&P 500 sector index and the approximately $400 million Fidelity MSCI Real Estate Index ETF (FREL); however, VNQ’s 3.6% total return was below the gains for XLRE (8.6%) and FREL (6.8%).
Holdings Differences Impacting Reit ETF Records
Source: CFRA’s MarketScope Advisor
Under The Roof
Meanwhile, the year-to-date gain for the Vanguard REIT Index Fund, Admiral Shares (VGSLX) through Sept. 1 was in line with its Lipper real estate mutual fund peer average’s, while the actively managed Invesco Real Estate Fund (IARAX) was more than 2% stronger in the same period.
For XLRE, FREL and IARAX, specialty REITs American Tower (AMT), Crown Castle International (CCI) and Weyerhaeuser (WY) were among the biggest positions. Yet those wireless-telecom or timber-driven REITs are not inside the index that VNQ currently tracks, though they are currently part of the proposed index.
At the end of the second quarter, AMT was the largest constituent, at a 5.5% weighting, while CCI was the third largest, at 3.5%. In addition, WY and SBAC Communications were 2.4% and 1.6%, respectively.
Based on the combined $65 billion in assets tied to Vanguard REIT index products—including multiple mutual fund and ETF shares classes—Vanguard’s exposure consisted of $3.6 billion of AMT, $2.3 billion of CCI, $1.6 billion of WY and $1.0 billion of SBAC. This is equal to approximately 6% of the market capitalization of these specialty REITs as of the end of August.