Bubble or No Bubble That is Not the

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Bubble or No Bubble That is Not the Powered By Docstoc
 VOLUME 8, ISSUE 4                                                                                         Fall 2005

REITs offer strong
investment alternative

 Bubble or
 No Bubble;
 That is
 Not the

                                              You and every other reader in the United States have been besieged with
                                               articles on real estate investments, unworldly returns and
                                                cautionary warnings of a “bubble” in real estate prices. It is not
                                                the intent of this newsletter to conjecture on the timing of any
                                                real estate acquisitions or sales. Rather, it is to point out the
                                                validity of alternative investment classes, including real estate as a
                                               significant alternative, and ways an investor may incorporate this
                                              asset category into a broadly diversified portfolio.
                                                                                                           continued on page 2

                        REITs offer strong investment alternative

Bubble or No Bubble                                                          (Continued)

For many Americans, the largest portion of their wealth          I am a great believer in real estate. As Will Rogers
is invested in their personal homes. Most investment             said, “They don’t make it anymore.” It also must be
professionals do not consider the family home to                 recognized that ownership of real estate has some
be part of the investment portfolio of a household.              distinct drawbacks, which include:
Typically a home is primarily shelter and is infrequently
converted to cash to meet a family’s needs. As much              •   LIQUIDITY CONSTRAINTS
as my home has gone up in value, and irrespective of its             You can’t sell every piece of real
resale value, I have no intention of selling it to provide           estate overnight and the transaction
funds for retirement. After all, I still need a place to live,       costs can be large.
and my spouse and dogs happen to like where they reside.
Ultimately, the value of our house would become part of
our legacy for our heirs or charities of choice.
                                                                 •   CARRYING COSTS
                                                                     Maintenance, taxes, insurance and
                                                                     management together can add significant
Over the past years, we could have “monetized” the
                                                                     dollar and time commitments to the
value of our home by refinancing or through a home
                                                                     original cost of your investment.
equity line of credit. Low interest rates would have
allowed us to borrow more money versus the appreciated
value of our house. We could have used the newly found           •   LARGE CAPITAL COMMITMENTS
cash for our son’s education or for travel or new vehicles.          One generally doesn’t, even with the use
We did refinance, but instead of extracting the cash,                 of debt, own real estate without a
we used the opportunity to reduce the term of our                    significant capital outlay.
mortgage by half.

              ...real estate.
                                       As Will Rogers said,
              "They don't make it anymore."

  • • •    D.A. DAVIDSON & CO. member SIPC • • •       DAVIDSON INVESTMENT ADVISORS          • • •    DAVIDSON TRUST CO. • •
      Investors do have a way to own real estate as a           This marketability sets
      judicious part of their total portfolio in a manner       them apart from “traditional” real estate.
      that vastly improves liquidity, eliminates personal       Equity REITs invest in all types of properties,
      management responsibilities and requires a far            with each REIT typically concentrated in one type.
      smaller capital outlay. The solution is publicly          The types include residential units, office buildings,
      traded Real Estate Investment Trusts (REITs). A           shopping centers and regional malls, lodging, industrial
      REIT is a company that owns, and in most cases,           facilities, storage units and health care facilities. Mutual
      operates income-producing real estate. REITs that         funds, called REIT funds, are another alternative to
      finance real estate are called mortgage REITs. To          efficiently give exposure into multiple REIT sectors
      be classified as a REIT, a company must distribute         with professional security selection.
      at least 90% of its taxable income to shareholders
      annually in the form of dividends. A REIT escapes         Income-producing REITs are attractive for several
      corporate taxation if this is done; however, the          reasons. They create and distribute a relatively high
      dividend income is taxable to shareholders at             stream of income. Historically, their income is over
      ordinary income rates.                                    1% higher than that of the 10-year bond, although one
                                                                must acknowledge a greater degree of risk. Additionally,
      Today, there are approximately 180 publicly traded        REITs have the ability to grow income over time, which
      REITs in the United States, with assets of over $350      offsets the negative effects of inflation. Since 1992,
      billion. These REITs trade on major stock exchanges,      dividend growth of REITs ranged from just under
      creating immediate marketability for shareholders.        2% in 2002 to 8% in 1998. 2002 was the only year
                                                                during this 11-year span in which the rate of dividend
                                                                increases for the sector did not exceed the rate of
                                                                inflation. In most years, the income increase doubled
                                                                the rate of inflation.

                                                                Beyond the attractive income stream, REITs have the
                                                                opportunity for growth in the underlying real estate
                                                                assets, which leads to long-term capital appreciation.
                                                                While past performance cannot be a guarantee of
                                                                future performance, it is interesting to note that REITs,
                                                                as measured by the Dow Jones Wilshire REIT index,
                                                                returned an annualized return of 15.6% over the
                                                                last 10 years. This is higher than the S&P 500
                                                                return for the same period.

• •   D.A. DAVIDSON & CO. member SIPC • • •     DAVIDSON INVESTMENT ADVISORS     • • •     DAVIDSON TRUST CO. • • •
REITs offer strong investment alternative                                     Bubble or No Bubble (Continued)
REITs have become a widely recognized and
acknowledged asset class by sophisticated investors
and institutions. In great part, this is due to their lack             IS THIS THE TIME TO LEAP INTO REITS?
of correlation to other asset classes, most especially
equities. REITs do not always go down when equities                    Frankly, we believe REITs are overvalued by
go down and vice versa. It is not easy to find                          historic measures at this time. REITs generally
investments with this lack of correlation to equities.                 are negatively affected by increases in interest
This is important in the construction of a portfolio                   rates and Federal Reserve actions could be
by helping mitigate risk and ideally increasing return.                detrimental to their financial performance in the
A study by Ibbotson Associates over the 1972-2004                      near term. In today's environment, we would
period found that a portfolio comprised of 50% stocks                  reduce exposure to REITs just as we would also
(represented by S&P 500 index), 40% 20-year U.S.                       be mindful of traditional real estate investments.
government bonds and 10% U.S. Treasury bills had
returns that were 10.9% and the risk, as measured by                   This being said, Real Estate Investment Trusts or
standard deviation, was 10.6%. Substituting 10% REITs                  REIT mutual funds can be very useful components
for an equal portion of the stocks and bonds increased                 of portfolio construction. REITs can add improved
returns to 11.2% and reduced the risk of the portfolio.                and growing income, additional capital appreciation
The same results were noted with a 100% fixed                           and reduced volatility. The proper selection
income portfolio. Substituting 10% to 20% REITs for                    of REITs is important; they are not all alike.
bonds increased returns and actually lowered volatility                Talk to your D.A. Davidson & Co. financial
or risk. This is classic asset allocation and the result               consultant about REITs. This efficient way
of intelligent, judicious diversification.                              to own real estate might be a fine addition
                      — Jim Searles, Senior Vice President,            to your portfolio.
Director of Professional Development and Product Management

    In the business world, 70 years is a                                              conviction in those values means
    long time. Most small businesses          Most of you know that Davidson          that through the years, we’ve
    fail during their first few years of       Companies has seen many changes         never lost sight of what’s most
    existence. Still others disappear into    since then. We’ve become a              important: our relationship with
    larger companies in mergers and           comprehensive financial services         you, our clients. We believe our
    acquisitions. The brokerage firms          company, offering an array of           unwavering commitment to
    that served your grandparents             integrated products and services.       you is what differentiates us
    probably no longer exist.                 Davidson Companies now employs          from the crowd. We stand by our
                                              more than 850 people in 15 states.      words — you are the reason for
    At Davidson Companies, we’re
                                              We manage more than $14 billion         everything we do.
    pleased and proud to be
                                              for our clients. We compete directly
    celebrating a remarkable birthday.                                                So each of us at Davidson
                                              and competently — in products,
    Friday, October 14, marks the                                                     Companies would like to thank
                                              services, technology and expertise
    70-year anniversary of the day that                                               each of you for helping us reach
                                              — with much larger firms.
    David Adams Davidson opened                                                       this important milestone. We look
    the first branch office of the small        More importantly, we at Davidson        forward to our next 70 great years.
    Montana brokerage firm that has            Companies have never lost track of      We look forward to continuing to
    grown into Davidson Companies.            our Montana roots and values. Our       work with you.


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