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Is The Performance Of Real Estate ETFs Skewed?

Is The Performance Of Real Estate ETFs Skewed?
By Simon Maierhofer
January 2, 2008

SAN DIEGO ( - No other investment vehicle has been as wholeheartedly embraced by investors as index ETFs. On many days, the trading volume of ETFs accounts for more than a third of securities traded on the New York Stock Exchange.

The most popular class of index ETFs, leveraged and short ETFs, has been pinpointed by REIT executives as the reason  for unwelcome volatility in Real Estate ETFs in general and individual REITs in particular.

The “scapegoats” are the ProShares UltraShort Real Estate ETF (NYSEArca: SRS) and ProShares Ultra Real Estate ETF (NYSEArca: URE). URE seeks to deliver 200% the daily performance of the Dow Jones U.S. Real Estate Index, SRS is the inverse counterpart. Both ETFs combined account for $1.41 billion in assets (SRS: $1 billion, URE: $141 million).

The Wall Street Journal reports that since Sept. 30, the Dow Jones Equity All REIT Index recorded moves of 5% (gain or loss) or more on 35 out of 61 trading days while the S&P 500 (AMEX: SPY) only recorded 17 days of 5% + moves.

Volatility, bad for REITs

Volatile share prices are unwelcome for REITs as they may scare off institutional investors looking for stable returns. Rollercoaster stock prices also make it more challenging to cut deals, establish a fiduciary budget and raise capital.

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Real Estate Investment Trusts (REITs) are companies that own and often manage income-producing real estate properties such as offices, industrial and commercial space and apartments. REITs have to pay at least 90% of their taxable income to its shareholders. In exchange, REITs are given certain tax advantages.

The Journal further reports that Equity Residential (NYSE: EQR), a top holding in the SPDR DJ Wilshire REIT ETF (NYSEArca: RWR) and Vanguard REIT ETF (NYSEArca: VNQ), surged 18% the same day (December 12th) that the ProShares Ultra Real Estate ETF had its biggest volume day of the month.  On December 18th, the biggest volume day for the ProShares UltraShort ETF, Equity Residential fell from $32.85 to $28.86 (12.15%).

The chicken or the egg question

Who was here first, the chicken or the egg? Are short and leveraged ETFs causing the volatility in REITs or are leveraged ETFs merely reflecting the volatility of the real estate sector?


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A similar question came up earlier this year when commodity prices skyrocketed. Commodity ETFs and speculators using such ETFs, were blamed for all time highs in the price of wheat, corn, soy and oil. According to a managing Director of Derivatives at Goldman Sachs, commodity ETFs don’t take delivery of the underlying commodity and thus don’t affect the price.

The discussion became a moot issue as commodity prices dropped as much as 70%. If commodity ETFs caused the jolt in commodity prices, how come commodity prices tumbled while commodity ETFs continued trading as usual?

Equity short ETFs do not invest in the actual stocks of the underlying index. The inverse performance is attained by an investment in swaps, futures and option contracts. On that basis it is safe to assume that the 12.15% drop in Equity Residential on December 18th was not caused by SRS shorting Equity Residential and other real estate stocks.

The Ultra Real Estate ProShares (NYSEArca: URE) account for only $141 million in assets. With a 5.5% allocation to Equity Residential, URE could control as much as $7.75 worth of Equity Residential shares, at a price of $27, this would equate to a trading volume of roughly 287,000 shares, only 4% of Equity Residential’s average trading volume.

The performance of the commercial real estate and international real estate market - not represented by a short or leveraged ETF - is in-line with the performance of domestic real estate. Without the “help” of short ETFs, the SPDR DJ Wilshire International REIT ETF (NYSEArca: RWX) recorded a loss of 51% in 2008 while the domestic counterpart, the SPDR DJ Wilshire REIT ETF (NYSEArca: RWR), is down “only” 39%.

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Discussions about the effect of short and leveraged ETFs on REITs (or other asset classes) will probably be resurrected any time a particular asset class is subjected to extreme volatility.

Second to the financial sector, real estate has been most affected by the waves of the financial tsunami. Personally, I believe that short and leveraged ETFs simply mirror the results of a sector in turmoil.

Short and leveraged financial ETFs were and still are marked toby huge up-and down swings due to financial unrest. Short selling was blamed initially for the carnage in financial stocks. Nevertheless, financial stocks continued to plummet after short selling was banned. How about that for a mythbuster?
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