Q: I own a few REITs in my portfolio. Why have they been performing so terribly compared to the rest of the market?
As an investor who owns about 10 real estate investment trusts (REITs) myself, I certainly feel your pain. While the S&P 500 has risen by 28% since mid-2016, the Dow Jones Equity REIT Index has fallen by nearly 14% during the same period.
Some REIT sectors are experiencing headwinds. An obvious example is the wave of retail bankruptcies weighing on retail REITs.
However, most of the REIT underperformance has little to do with the underlying businesses or property values. Instead, the strong U.S. economy itself is the main culprit.
Specifically, the economy has been doing quite well, and as a result, the Federal Reserve has started to increase interest rates. Bond yields have also been creeping upward in anticipation of inflation, and this has put downward pressure on income-focused investments like REITs.
Think of it this way. If a certain blue chip REIT is yielding 4% and a 10-year Treasury note is yielding 2%, it may seem worthwhile for investors to take on the additional risk of owning the REIT. On the other hand, if the Treasury's yield spikes to 4%, the REIT's yield will need to rise in order to remain attractive to investors. Of course, this is a simplified explanation, but this is the general concept behind why REITs have performed so poorly.
The important thing to keep in mind is that REITs are long-term investments, and that rock-solid, well-run REITs have survived rising-rate environments much worse than this one, and have delivered excellent long-term total returns to shareholders.