Active ETFs for a Real Estate Recovery

Few investors even consider investing in real estate these days, given how much the real estate market has suffered in the past 2-3 years. However, as David Fessler points out, it might be the right time to start considering a contrarian approach to this space. The financial sector in March 2009 was a once-in-a-generation opportunity that many investors, sophisticated or otherwise, missed because nobody wanted to touch that sector with a 10-foot pole. Real estate might be in a similar situation right now. Of course, no one should be contrarian just for the sake of being against the crowd, it’s important that there are signs of bottoming and stabilization to avoid catching a falling knife. And that’s what this chart, provided by Research Recap, seems to indicate. The residential housing market bottomed out earlier while the commercial market just appears to have carved out a bottom.

A contrarian on real estate could utilize one of the many real-estate passive index ETFs out there such as the Vanguard REIT ETF [VNQ] or the SPDR Dow Jones REIT [RWR] to execute their strategy.  These ETFs track the performance of an index such as the MSCI US REIT Index for VNQ or the Dow Jones U.S. Select REIT Index for RWR. The indices in turn comprise of a certain segment of the real estate market, or in these 2 cases, all the publicly traded US REITs. That means every REIT on the US market will be part of these indices, whether good or bad. There is little doubt that there are many companies in the real estate space that are still in dire straits and will likely go belly-up soon. Actively-Managed ETFs allow investors the use of active management to leave out the bad apples from their portfolios while still utilizing the benefits of an ETF structure. If you believe in that line of argument, there is currently only one real estate Active ETF on the market, but more are planned:

PowerShares Active US Real Estate (PSR)

PSR invests at least 80% of its assets in components of the FTSE NAREIT Equity REITs Index. The fund is allowed to take temporary defensive positions in cash, in times of market stress. Investment decisions for the fund are made by Invesco Institutional with 5 managers taking part in the day-to-day management of the fund. The managers identify attractive securities through quantitative and statistical analysis. The downside is the fund’s expense ratio of 0.80% and a lack of liquidity, with its current market cap at around $10 million. However, PSR has outperformed its passive counterparts since inception.

PowerShares Prime Non-Agency RMBS Opportunity Fund

This potential future investment option was announced by PowerShares on Jan 28, 2009. The Prime Non-Agency RMBS fund will invest in non-agency mortgage-backed securities which are collateralized by pools of Prime residential mortgage loans. Prime residential mortgages are given to borrowers with a good credit history and low-risk profile.

PowerShares Alt-A Non-Agency RMBS Opportunity Fund

Part of the same announcement, the Alt-A Non-Agency fund will invest in non-agency mortgage-backed securities which are backed by pools of Alt-A residential mortgage loans. Alt-A loans extended to borrowers who fall in between the Prime – Subprime spectrum.

Given the fact that the two RMBS Active ETFs have not made it to market a year after their filing, don’t hold your breath expecting their launch. But if they do make it to market, they’ll provide some additional opportunities for investors looking to get into real estate ETFs, but through active management.

Next Step: Actively-Managed Real Estate ETFs for emerging markets?