The combination of three interest rate reductions by the Federal Reserve and investors' preference for lower volatility assets was efficacious for real estate equities as highlighted by a 24.43% gain for the widely followed MSCI US Investable Market Real Estate 25/50 Index.
With 2020 here and with expectations plentiful that international stocks could finally outpace their U.S. rivals this year, ex-US real estate assets, including exchange traded funds (ETFs) could be worth considering in the new year. That includes the Vanguard Global ex-U.S. Real Estate ETF (VNQI).
Although investors are often under-allocated to international stocks, VNQI has carved out a niche for itself as it has $5.9 billion in assets under management. Much of that enthusiasm is derived from VNQI's low fee of just 0.12% per year, or $12 on a $10,000 investment, a hallmark of many Vanguard ETFs.
“This fund tracks a market-cap-weighted index that is representative of the opportunity set available to investors in this market segment,” said Morningstar in a recent note. “It also has a durable edge over peers in the form of its lowest-in-class expense ratio.”
VNQI is a worthwhile choice for income-hungry investors looking to augment other international holdings with some real estate exposure. The Vanguard fund yields about 3.60%, which is well above domestic real estate benchmarks as well as some ex-US indexes.
Additionally, many traditional international equity indexes are light on real estate names. For example, the MSCI ACWI ex USA Index devotes just 3.25% of its weight to the real estate sector, its smallest sector allocation.
There are other important differences between VNQI and domestic equivalents. For example, many US-focused real estate ETFs are heavily allocated to real estate investment trusts (REITs). Yes, there are REITs in international real estate funds, but VNQI's 47% weight to the asset class is comparatively light.
“Its remaining holdings are engaged in a diverse array of real-estate-related activities and include real estate operating companies, real estate developers, and non-REIT property managers,” according to Morningstar. “Developers construct buildings on new or underutilized land. Unlike REITs, which are restricted from building in some nations, developers can take on more-speculative projects. Developers are more volatile than REITs because their cash flows are less predictable, and payout ratios are generally much lower.”
The combination of property developers exposure and a 20.60% weight to emerging markets could spell increased volatility for VNQI, but as the chart below indicates, the fund was less volatile than its domestic counterpart over the past three years.
Outlook For Interest Rates
As is the case with a domestic real estate ETF, investors considering VNQI need to be aware of interest rate moves by central banks.
Fortunately, the fund allocates about 49% of its combined weight to Japan and Europe, regions where interest hikes appear unlikely in 2020. Additionally, the bulk of the countries comprising VNQI's 20.60% weight to emerging markets aren't credible raisers of borrowing costs entering the new year.
Although homebuilders and publicly traded real estate agents are excluded, VNQI is still home to nearly 700 components, giving it a substantially deeper bench than rival funds in the category.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.