Investing in property – whether it is owning one's own home as part of the Great Australian Dream, or purchasing an investment property as a part of a portfolio – has been well-trodden path for Australians.

And as the economy re-opens and recovers from the impact of COVID our love affair with property has never been stronger. It's been hard to ignore not just the number of 'For Sale' signs erected outside homes in my suburb but the speed at which the 'Sold' stickers are slapped on - an unscientific but probably accurate reflection of the booming property market, fuelled by low interest rates.

But for investors who are not keen on being lumbered with a mortgage and other costs involved in maintaining a physical property, or who would like to invest smaller amounts in this asset class, there is always the alternative of Real Estate Investment Trusts (REITs) ETFs. Bought or sold on the ASX, these ETFs are often viewed as a low-cost way of investing in property securities listed on the Australian Securities Exchange.

Before you dive headfirst into purchasing a REIT ETF though, here are a few things you should know.

Commercial property vs residential property

Investors of REIT ETFs should be aware of the type of property securities invested in when purchasing a 'property ETF'. For instance, the Vanguard Australian Property Securities Index ETF (VAP) seeks to track the return of the S&P/ASX 300 A-REIT Index, and invests in property sectors which include retail, office space and industrial property. In other words, this ETF invests in commercial property and not residential property.

This has historically been one of the diversification benefits of REITs. While many Australians can afford a residential property, few can aspire to own a CBD office block or shopping centre.

Liquidity

REIT ETFs, like most other ETFs, are highly liquid in comparison to residential property. The process of selling a residential property is often a long one and it is hard to fathom the quickest of property sales beating the two-day turnaround for liquidating an ETF. Liquidity is less of an issue if you have invested in listed property via shares or a property ETF, as you can quite easily sell your ETF(s) back on the stock exchange if the need arose.

Further, one could imagine the difficulty a retiree in need of cash would have, in trying to sell just a bathroom or a kitchen in comparison to a percentage of an ETF portfolio. That liquidity clearly has value but from a diversification viewpoint, it is important to be aware that while a REIT ETF gives you exposure to the commercial property market, their behaviour can track the broader share market during moments of market stress.

Volatility in the short term and returns

Equally, you should be aware that especially in the short-term, the stock market is subject to volatility, possibly more than the property market. This was best illustrated during the COVID-induced market dip early last year, where the ASX 300 A-REIT index fell almost 50% shortly after it reached its all-time high of 1712 points just a few weeks prior. At time of writing, the index is sitting in the mid-1400s and looks to be moving steadily towards its previous high.

But over the long-term, whether in direct shares or ETFs, the volatility smooths itself out - the Vanguard Index Chart shows that $10,000 invested in listed property since 1990 would have delivered annual returns averaging 7.8%.

You should also be aware that the expected returns of a REIT ETF could be quite different to that of owning a physical residential property.

Property markets are not all the same and there are different economic drivers for residential property versus a high street retail shop versus a CBD office tower. Again diversification within the broader property market can help spread the investment risk.

Diversification

The diversification benefits of investing in a REIT ETF are quite compelling. For instance, VAP is invested in 32 property securities listed on the ASX, across several property sectors as previously mentioned. Short of purchasing 30 odd separate properties in the retail, commercial and industry sectors, it is impossible to beat the diversification benefit gained through investing in VAP or other broad REIT ETFs.

More broadly, having a guiding principle of diversification in your investment portfolio - that is diversification across and within asset classes that balances the investor's risk profile, goals and time horizon, and is tax efficient, will serve most investors well. Vanguard does not recommend being overweight in any asset class whether it is in direct shares (or ETFs) on the end of one spectrum or property on the other. As such, the value of a well-diversified portfolio across asset classes, for instance, a mix of residential property, direct shares or a broad-based ETF and bonds, cannot be overstated.

Vanguard Australia