Real Estate Plans for Risk-Tolerant Investors
If you’re the type of person who likes to invest while the going’s good, don’t read on. This column deals with mutual funds that focus on real estate--an industry up to its neck in problems.
“We’ve been in a bear market for the past three years, with most major cities overbuilt,” says Martin Cohen of Cohen & Steers Capital Management, a New York firm that runs three real estate funds.
“We don’t have the wind at our backs,” agrees Barry Greenfield, manager of the Fidelity Real Estate Investment Portfolio in Boston. “I don’t think people should make real estate a major part of their portfolios right now.”
Those are sobering words, especially coming from fund managers. Clearly, there are dangers afoot.
However, anyone with some risk tolerance and a longer-term outlook might find the sector mildly attractive. After all, real estate will stage a comeback someday, and today’s prices may be close to the bottom. Besides, the funds make the wait for a turnaround more bearable by paying dividends of 4% to 5% and more.
Many Californians might figure that they don’t need another real estate investment since they already have exposure through the equity in their homes. But a single house or condominium won’t provide much diversification. Besides, owners would have to refinance or sell to cash in on any gain.
For people with only a few thousand dollars to spare, a mutual fund offers a cheap way to invest in real estate. Many limited partnerships do the same, but they generally come with higher sales fees and less liquidity. You can buy or sell a fund at any time, but you might not be able to get out of a partnership until it liquidates after perhaps seven to 10 years.
At any rate, many financial advisers wouldn’t consider an investment portfolio complete without some real estate holdings. Real estate offers long-term growth potential like stocks, pays current income like bonds and provides an inflation hedge like gold. In short, it marches to the beat of a different drummer.
That’s why USAA Cornerstone Fund keeps roughly one-fifth of its assets in real estate equity securities at all times. It also maintains permanent holdings in foreign stocks, government bonds, gold shares and “basic value” stocks.
“The idea behind the fund is that we don’t try to pick what sector will do the best,” explains Harry W. Miller, senior vice president of equities for USAA Investment Management in San Antonio. “In times of high inflation, real estate stocks should do very well.”
In recent years, inflation has been pretty tame. But thanks to its balanced approach, Cornerstone has been able to generate a total return ranging from 8% to 41% in each of the past five years, although it’s down moderately so far in 1990.
If you already have stock, bond and gold holdings, you can add diversification by investing in a real estate fund.
Unfortunately, there’s not much to choose from. “Real estate funds are relatively new innovations, and their track records are spotty at best,” says Barry Vinocur, editor-in-chief of “Stanger’s Investment Advisor,” a Shrewsbury, N.J.-based trade magazine that tracks both mutual funds and limited partnerships.
Fidelity Real Estate Investment is the largest such fund, with about $46 million in assets. Its performance has led the group since early ’89.
Competing funds are offered by United Services Advisors of San Antonio, Evergreen Asset Management of Purchase, N.Y., and Templeton Funds of St. Petersburg, Fla. But all three are relatively young, unproven portfolios, and, combined, they count less than $25 million in assets.
The National Real Estate Stock Fund, based in Greenwich, Conn., ranks as the second-largest and oldest portfolio in the sector, having debuted in ’85. It posted a lackluster 38% total return for the five years ending April 30, 1990, according to Morningstar Inc. of Chicago. The fund has a younger, smaller sibling in National Real Estate Income, but the two are slated to merge this summer.
Cohen manages both National funds, along with the Real Estate Securities Income Fund, a closed-end portfolio listed on the American Stock Exchange.
Closed-end funds issue a fixed number of shares, which investors bid up and down in price like common stock. Many trade below their “net asset value,” the per-share worth of the securities held. Real Estate Securities Income, for instance, recently sold at about a 16% discount to its NAV of $6.59 a share. However, this doesn’t necessarily make the fund a good buy, since discounts can widen.
Real estate mutual funds usually invest part of their assets in the common stock of building, development or property management corporations. But, even more important, they hold real estate investment trusts or REITs.
These hybrid companies manage properties directly, often specializing in a certain type or region. For tax reasons, REITs pay out most of their income as dividends. This explains why REITs offer such high yields--7% to 8% on average, Miller says.
At the moment, both Greenfield and Cohen like health-care REITs. These outfits buy and lease out nursing homes, retirement complexes, substance-abuse centers and other medical facilities, earning both rent and a percentage of gross revenue. The stability of the health-care business makes the REITs a safe bet, Cohen says. “You also get some inflation sensitivity because of the tendency of health-care costs to rise.”
Cohen also favors REITs that manage strip shopping centers--another sector with economic resiliency, he says. Greenfield, by contrast, likes French companies that function much like REITs. He has invested 13% of Fidelity Real Estate’s assets in these firms, reflecting a belief that European economic unification will boost rents and property prices in Paris.
However, Greenfield is bearish on most domestic REITs--for good reason. The average REIT posted a negative return of 1% last year, including dividends, according to the National Assn. of Real Estate Investment Trusts in Washington.
REITs have been weak for most of the time since 1987. Chris Lucas, director of research of NAREIT, says many factors contributed to the currently overbuilt real estate market, including liberal tax policies for limited partnerships that were curtailed in 1986. But if anything, he says, tax reform helped REITs by making them more competitive. “Partnership sales are no longer based on tax advantages. That has leveled the playing field.”
Over longer periods, REITs have held up better. During the 1980s they posted a 12.6% annual compounded return, placing them below common stocks--the Standard & Poor’s 500-stock index averaged 17.4% a year--but in line with corporate bonds. However, REITs outperformed stocks by a 20% to 16% annual margin from 1975 through ‘86, a span that included some high-inflation years. “Real estate funds have the potential to produce very good returns over the long term,” Vinocur says.
Clearly, now might not be the best time to bet on real estate. But when the industry eventually recovers, mutual funds will likely offer an attractive vehicle for smaller investors.
HOW MUTUAL FUNDS PERFORMED Average total return, including dividends, in percent for periods ended Thursday, June 21 TOP 10
Fund Type Notes 12 mos. Yr. to date Week Strategic Gold/Minerals AU L -13.42% +1.06% +5.85% Benham Equities: Gold Eq. Index AU NL +4.61 -18.87 +5.79 Strategic Investments AU L -15.15 -43.81 +5.15 Rushmore: Precious Metal Index AU NL * -21.12 +5.14 Strategic Silver S L +17.33 -1.79 +4.02 International Investors AU L +4.61 -25.45 +3.85 Fidelity Select American Gold AU LL,R +2.59 -13.94 +3.79 Van Eck: Gold/Resources Fund AU L -9.28 -24.20 +3.06 MFS Lifetime Gold & Prec. Metals AU NL,R -1.64 -16.43 +3.06 Fidelity Select Precious Metals AU LL,R 0.00 -20.50 +3.05
BOTTOM 10
Fund Type Notes 12 mos. Yr. to date Week Benham Target: Series 2020 FI NL *% -9.25% -4.05% Fidelity Select Savings & Loan FS LL,R -10.94 +2.38 -3.42 CGM Capital Development G NL +18.49 +13.94 -3.37 Wealth Monitors Fund CA NL -9.41 -5.01 -3.35 Steadman Oceanographic G NL +7.14 +2.53 -3.34 Benham Target: Series 2015 FI NL +2.26 -8.54 -3.32 Wexford Trust: Muhlenkamp Fund FX NL +5.25 +2.17 -3.26 PBHG Growth Fund CA L +20.50 +11.39 -3.24 Mutual of Omaha Growth Fund G L +33.99 +17.10 -3.23 Steadman American Industry CA LL -7.02 -3.64 -3.20
TYPE: AU = gold, B = balanced, CA = capital appreciation, CV = convertible securities, EI = equity income, EU = European regional, FI = fixed income, FS = financial securities, FX = flexible portfolio, G = growth, GI = growth and income, GL = global-international and U.S. stocks, GX = global flexible portfolio, H = health/biotechnology, I = income, IF = international, MI = mixed income, NR = natural resources, OI = option income, PC = Pacific regional, RE = real estate, S = specialty/misc., SG = small company, TK = science and technology, UT = utility, WI = world income.
NOTES: NL means no sales charge, LL means sales charge of 4 1/2% or less; L means sales charge of greater than 4 1/2%; R means redemption fee may apply.
Fund not in existence for the period covered.
Source: Lipper Analytical Services
