REIT EXCHANGE TRADED FUND - PERFORMANCE AND PORTFOLIO ALLOCATION

Abstract

This study examines the performance, trading characteristics and portfolio allocation decision of REIT exchange traded funds (ETFs). This is achieved by a yearly cross-sectional study on REIT ETFs based on the period of each individual fund’s inception date to the second half of 2011. It investigates the ability of broad-based oriented (classical) REIT ETF as well as narrow and international oriented (non-classical) REIT ETF, to accurately replicate the performance of their underlying indexes. The results revealed that classical REIT ETF closely track their respective benchmarks by exhibiting low tracking errors. However, non-classical REIT ETF failed to do so as this group of funds recorded higher tracking error, which was probably due to the employment of optimization techniques. Findings based on the trading characteristics of REIT ETF showed that for most classical REIT ETF, price deviations disappear within a day. In addition, the results showed that non-classical REIT ETF that tracks international REIT indexes experiences significant price deviations and that these deviations will persist over time. The second portion of this study examines the attractiveness and feasibility of allocating classical REIT ETF in an ETF asset portfolio. Firstly, classical REIT ETF are found to have a strong and positive correlation to NAREIT return which means that REIT ETF are appropriate REIT proxies to be used by small retail investors. Secondly, the attractiveness of owning a REIT ETF is exhibited with substantial allocations in the efficient portfolios at various risk levels. Although REIT ETF in an ETF portfolio tends to underperform market portfolio in the long-run, the study showed that REIT ETF still warrants inclusion into a retail investor’s portfolio as it offers close replication of market returns with low cost.