More and more investors are realizing why a long-time anchor in our portfolios is real estate. These investors and their advisors have learned to follow our example.
A big advantage of including real estate in a balanced, diversified portfolio is that real estate tends to be non-correlated with stocks. That means real estate usually appreciates when equities are falling and lags behind stocks in a bull market. You want balance like that in a portfolio. Even better, while real estate appreciates over time, most of its return comes from income and re-investment of income. You don’t have to depend on constantly rising values to increase your wealth.
You can invest in real estate by purchasing individual properties. But that’s not an investment; it’s a business. Owning real estate can be time consuming, often outside of regular business hours. You also have to own multiple properties to diversify risk.
A better approach for most of us is to own real estate stocks, especially real estate investment trusts. REITs are companies that own different properties. Most focus on one type of property, such as offices, shopping malls, or apartments. Most REITs also diversify nationally, while others concentrate on one or two regions. The REIT itself is not taxed if it distributes to shareholders most of its income each year.
The best way to buy REITs is through a mutual fund that specializes in REITs. There are several quality real estate funds to consider.
My long-time favorite is Cohen & Steers Realty Shares. The firm focuses on REITs and is the most experienced REIT manager. Others are late arrivals to the sector and don’t have the depth of Cohen & Steers. The firm also follows a policy I like in all managers. Its portfolio is focused on the firm’s best ideas and doesn’t attempt to track an index. CSRSX has a minimum investment of $10,000. But you can get in for less through a mutual fund supermarket, such as Charles Schwab & Co., Ameritrade, and others.
Other REIT funds worth considering are the Vanguard REIT Index, Price Real Estate, and American Century Real Estate.
Third Avenue Real Estate is an excellent real estate securities fund, but it does not concentrate in REITs. Instead, it buys real estate operating companies, including developers and land leasing companies. REITs are a minority of the portfolio. The fund follows the usual Third Avenue strategy of buying stocks at deep discounts.
The Third Avenue fund won’t pay the income of the REIT-focused funds and likely will appreciate and decline at different times. It can be a good supplement to a REIT fund, but I wouldn’t purchase it instead of one of the REIT funds.
REITs are an essential part of a diversified and balanced portfolio. Over the last 10 years (and shorter periods) REITs generated a higher return than U.S. stocks. As long as the U.S. economy is healthy and growing, REITs should deliver solid long-term returns. They should be in almost every portfolio.
Let’s review our recommended portfolios.
Hussman Strategic Growth, the anchor of our Managed Portfolio, remains cautious on the stock market. The fund retains its investments in growth stocks selling at reasonable prices. It also is ensuring that about two thirds of the portfolio is hedged against the market. The result is that the portfolio will appreciate modestly if stocks continue to climb but will be protected if stocks take a dip.
Manager John Hussman believes the stock market currently is overvalued by a wide margin, so he wants some protection against a market decline. It is good fund to own at a time such as this when the economy is meandering, investors have embraced risk, and many stocks have recorded significant short-term returns.
TCW Galileo Select Equity is one of the top diversified funds since last March’s market bottom. It returned over 7% in the last month. The holdings in this concentrated portfolio of growth stocks have some of the highest valuations in the market. This fund doesn’t hedge, so I’m keeping the sell signal up to date. Be prepared to lock in your profits if the stock market takes a sharp tumble.
We’ve already reviewed Cohen & Steers Realty Shares. As long as the economy grows, CSRSX will add value. I’m keeping a sell signal in case there is a change in the economy or markets.
The laggard in the portfolio continues to be AXA Rosenberg Global Long/Short Equity. One of the strategies the fund uses is to sell short stocks with the highest valuations and buy stocks that are undervalued. Unfortunately, the stocks that appear to be the most overvalued are the ones that continue to gain in this market. Once investors shift away from the most highly valued equities, the fund should generate gains. In the meantime, it provides good insurance against the uncertainty in this market. I continue to recommend holding the fund.
This portfolio holds the same positions as the Sector Managed Portfolio, though in different percentages for more conservative investors. Keep following the sell signals for TCW Galileo Select Equity or Cohen & Steers Realty Shares.
The more conservative positions we took recently are paying off.
To protect against inflation rising interest rates, this portfolio is anchored by Vanguard Short-Term Corporate Bond and Vanguard Inflation-Protected Securities. Each will generate income and also should protect capital in almost any economic environment.
Cohen & Steers Realty Shares will generate solid income. CSRSX, along with Dodge & Cox Balanced, also will generate capital gains over time without a lot of risk. This portfolio should generate higher income than most bond funds while providing better protection of principal.
Interest rates have settled down a bit, as we anticipated. The bond market panic of the summer receded. Most bond funds actually have produced modest gains since mid-August.
Even so, principal protection is the primary goal of any income portfolio these days. Interest rates probably hit their bottom for this cycle, and rising rates threaten the capital of any income investor.
We defend capital with Vanguard Short-Term Corporate Bond. The short duration of the portfolio makes it less sensitive to rising interest rates, as does the concentration on corporate bonds instead of treasury bonds. Vanguard Inflation-Protected Securities also offers an inflation defense. Cohen & Steers Realty Shares boost income with potential for capital gains.
I expect the current income investment climate to continue for some time. That’s why I’m not putting sell signals in this portfolio. Plan to own these funds until I see a fundamental shift in the markets.