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What's Behind the Recent Rally in Real Estate ETFs?

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REIT ETFs have been rallying hard this year with Vanguard Real Estate Index Fund ETF Shares (VNQ - Free Report) adding 8.6% in the period compared with 3.8% gains in theSPDR S&P 500 ETF (SPY - Free Report) (as of Feb 14, 2020).

While low rates caused by the dovish Fed and heightened geopolitical issues (including the Middle East tensions and the coronavirus outbreak) in 2020 are a tailwind for the space, some industry-specific factors have also been fuelling this upside.

Let’s delve deeper into the factors that have been driving the space.

Booming Cloud Business Favoring Data Center REITs

A stupendous tech rally has been aiding the data center REITs in recent times. Data center REITs own and manage facilities that aid customers to safely store data. These REITs provide continued power supplies, air-cooled chillers and physical security.

Notably, public cloud providers, such as Apple (AAPL - Free Report) , Amazon (AMZN - Free Report) , Facebook (FB - Free Report) , Google GOOGL and Microsoft (MSFT - Free Report) are investing big in data centers. With cloud computing gaining prominence steadily, demand growth for data centers would be steady and so would these REITs be (read: Top REIT ETFs: 5G, Cloud Computing & E-commerce).

Some of the data-center REITs beat the S&P 500 index by a solid margin. Equinix Inc. (EQIX - Free Report) and QTS Realty Trust Inc. (QTS - Free Report) have gained 50.6% and 36.6% in the past year, respectively compared with 21.6% gains in the S&P 500. The average dividend yield of the data center space is 2.49% annually (as of Jan 31, 2020).

Pacer Benchmark Data & Infrastructure Real Estate SCTR ETF SRVR puts about 14.7% weight on EQIX, iShares Cohen & Steers REIT ETF ICF puts about 7.9% and Real Estate Select Sector SPDR Fund XLRE invests 6.4% in the stock.

Cell-Tower REITs: Beneficiaries of 5G

This area has been a beneficiary of the rapid rollout of 5G. Cell Tower REITs rose more than 10% after Sprint and T-Mobile reached a merger deal this month. Investors should note that increased consumption of mobile data has already been boosting this space.

Such cell-Tower REITs includethe likes of American Tower (AMT - Free Report) , Crown Castle (CCI - Free Report) , SBA Communications (SBAC - Free Report) and Uniti Group UNIT. These stocks take about 40% of the SRVR while the fund XLRE puts 25% of its weight on AMT, SBA and UNIT.

Low Interest Rates

The Fed enacted three rate cuts in 2019 and is likely to stay dovish in 2020 too. This is especially true, given that the coronavirus outbreak is deemed to be stressing global growth in the near term. This will likely keep benchmark bond yields subdued as safe-haven rally would perk up. With real estate being a rate-sensitive sector, such trend should bode well for the space (read: ETF Strategies to Mark as Virus Scare May Hit Global Growth).

ETFs in Focus

Funds that are heavy on data-centre and cell-tower REITs have gained in the range of 19.5-36.3% in the past year. SRVR surged 36.3%, ICF added 17.5% while XLRE was up 19.5%. These funds were up 11.8%, 8.9% and 9.6%, respectively, this year (as of Feb 14, 2020).

Notably, the largest real estate fund VNQ has 33.5% weight in Specialized REITs, 15% in residential REITs and 11.3% in retail ETFs. And the fund has returned 17% in the past year.

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