Not All Real Estate Is Created Equal

Find out where the people are going and buy the land before they get there. – William Penn Adair

Owning property is often seen as a sure path to riches, but not all real estate is created equal. When it comes to REITs in this COVID-19 world, instead of “location, location, location”, the important differentiator is the purpose of the buildings in a given location.

Vanguard’s U.S. REIT (VNQ) – the red line here ­- holds various types of commercial property. Its YTD performance is not all that exciting, for good reason – it includes some sub-sectors in the REIT arena that have been slammed by the pandemic, such as Lodging/Hospitality (the yellow line, INN).

When we added an Airline ETF (JETS) to the chart, we were not all that surprised to see that Lodging/Hospitality and Airlines track each other fairly closely (while airlines are outperforming lodging, both are in the dumpster).

Still, VNQ does include some attractive subsectors that have actually been boosted by pandemic-induced changes in behavior. In particular, Data Center REITs – represented here by Pacer’s SRVR ETF (the pink line) – have done extremely well.

SRVR holds REITs that derive at least 85% of their earnings from properties related to serving companies’ data and infrastructure needs. In other words, these are structures used to provide data-related services, such as data storage, data transmission, housing for server farms, and communication towers. These are exactly the type of properties that are in high demand by e-commerce companies, video-conferencing services, etc., as they have been booming due to the pandemic, are adding capacity as quickly as possible, and need controlled, secure environments for their servers and data. Even after we have a working vaccine, demand is likely to remain strong.

The top ten holdings in SRVR are shown below, along with a breakdown of the three major types of Data Center REITs it holds. Almost 50% is in the booming area of Data Infrastructure.

And while a Data Center REIT may not be as glamorous (or volatile) as the tech sector, they are related. The chart below shows that SRVR and the tech sector (XLK) have a lot in common. Even though SRVR did not soar as high as the tech sector over the past month, it has also been less volatile and actually recovered from the March debacle even faster than tech:

Bottom line: REITs are often viewed as a single asset class, but the reality is more nuanced. While there is a common thread in that they all tend to pay large dividends, performance across the subsectors of REITs is often more close to the sectors in the economy that use the properties they hold than to the performance of other REITs. In the current market, Lodging/Hospitality REITs are mostly a bet on the travel industry, and Data Center REITs could be an interesting substitute for tech – one with fewer thrills but fewer spills.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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