Skip to Content
Fund Spy

An Inexpensive Way to Get Exposure to REITs

Silver-rated DFA Real Estate Securities provides comprehensive exposure to the real estate sector at a low cost.

Mentioned: , , ,
The following is our latest Fund Analyst Report for DFA Real Estate Securities (DFREX). Morningstar Premium Members have access to full analyst reports such as this for more than 1,000 of the largest and best mutual funds. Not a Premium Member? Gain full access to our analyst reports and advanced tools immediately when you try Morningstar Premium free for 14 days.

DFA Real Estate Securities is one of the lowest-cost options in the real estate Morningstar Category. It offers a broad market-cap-weighted portfolio that effectively diversifies risk and promotes low turnover. Dimensional's structural trading advantages further support the fund's Morningstar Analyst Rating of Silver.

This fund targets U.S. firms that are primarily engaged in the ownership, management, development, or sale of real estate, most of which are structured as real estate investment trusts. The fund extends its reach further down the market-cap ladder than most of its peers to offer comprehensive exposure to the real estate sector. But because the managers weight these holdings by market cap, the portfolio skews toward the largest real estate stocks. So, it has a comparable market-cap orientation to the category average.

This approach is similar to that of a traditional index fund. But because the managers do not track an index, they have the flexibility to trade patiently and substitute one stock for another to reduce transaction costs. Turnover here has been exceptionally low, falling in the low single digits in each of the past eight years.

Dimensional excludes REITs from most of its equity strategies, arguing that they should be treated as a separate asset class. The firm's rationale is based on research by Wharton professors Donald Keim and Joseph Gyourko. Indeed, the fortunes of the fund's holdings are closely tied to the health of the real estate market, which can perform quite differently from the stock market. That said, REITs are more highly correlated with the stock market than are appraised real estate values, as measured by the NCREIF Property Index.

The fund's cost advantage gives it a durable edge against its peers. It outperformed the category average by 97 basis points annually during the trailing 10 years through November 2018, ranking just outside the top decile of the category. During that time it exhibited volatility comparable to the category norm.

Process Pillar: Positive | Ben Johnson, CFA 12/12/2018
The fund's broad, market-cap-weighted portfolio effectively diversifies risk, mitigates turnover, and accurately represents the sector, supporting a Positive Process Pillar rating.

The strategy starts with a universe that includes any company primarily engaged in the ownership, management, development, or sale of real estate. Although the fund can own non-REIT securities, REITs dominate the portfolio. The fund filters out mortgage REITs, prison REITs, companies in financial distress, and companies about to be taken over by non-real estate firms. These securities must also have a market cap of at least $10 million, though the smallest security in the portfolio currently has a market cap of more than $100 million. The managers then weight these holdings by market cap. However, they have discretion to exclude holdings or modify weightings after considering such factors as momentum, trading costs, and liquidity.

DFA has a trading edge in the small-cap market segment but less so in the more-liquid large-cap REIT segment. That said, the fund's focus on mitigating transaction costs can still make a difference. By design, it is a low-turnover strategy. When trades are required, the managers have the flexibility to trade patiently and substitute one security for another to reduce transaction costs.

This portfolio spans the entire market-cap spectrum, with more than 160 holdings. It ventures further down the market-cap ladder than most of its peers, but its market-cap-weighting approach still pulls its portfolio toward the largest names in the sector. So, the fund's holdings currently have a similar average market cap to the category norm. While the fund is fairly well-diversified, it does have considerable exposure to the top few names. Its largest 10 holdings account for nearly 40% of the portfolio.

The fund's holdings are diversified across several REIT subsectors. Specialized REITs represent the fund's largest subsector exposure at 29.4% of the portfolio. Other REIT subsectors include retail REITs (16.7%), residential REITs (14.6%), office REITs (11.7%), healthcare REITs (10.0%), industrial REITs (7.1%), hotel & resort REITs (6.5%), and diversified REITs (4%). All market-cap-weighted REIT funds have similar subsector weightings and nearly identical top holdings.

The managers do not make any fundamental bets, which is conducive to low turnover. Indeed, the fund's turnover fell in the single digits in each of the past eight years, owing to its broad market-cap-weighting approach.

Performance Pillar: Neutral | Ben Johnson, CFA 12/12/2018
Over the long term, the fund has produced decent though not stellar performance, supporting a Neutral Performance Pillar rating. During the trailing 10 years through November 2018, the fund beat the real estate category average by 97 basis points annually, with comparable volatility. But its performance was stronger in the second half of that period, when its return ranked just shy of category's top decile. This was largely because of its cost advantage and smaller-than-average cash balance, which created a smaller drag on performance.

The fund's relative performance looks even better after taxes. Low turnover allows the managers to defer the recognition of capital gains, resulting in better tax efficiency than many active strategies, which require higher turnover.

Like most of its peers, the fund's risk profile has changed in the past decade. During the financial crisis, the fund was more sensitive to market fluctuations (exhibited a higher beta) than the broad Russell 1000 Index. But during the trailing five years through November 2018, it was less sensitive to market movements than that benchmark, as fundamentals in the real estate sector improved. That said, the fund has continued to exhibit greater volatility than the broad market. However, it isn't materially riskier than the category average.

People Pillar: Positive | Ben Johnson, CFA 12/12/2018
Dimensional fosters a collaborative team environment that, together with the fund's rules-based approach, mitigate key-manager risk. The team's experience and strong support underpin the Positive People rating.

Managers Joseph Chi and Jed Fogdall have worked on this fund since 2012. Lukas Smart was listed as a named manager following the departure of Henry Gray, the firm’s former head of trading, in February of 2017. Chi and Fogdall are co-heads of portfolio management, while Smart oversees a team managing U.S. large-cap stock and REIT portfolios. Each is a senior portfolio manager at DFA who has been with the firm for at least a decade. Other recent management changes occurred in 2015, when two managers exited the fund: Bhanu Singh, who had been a listed manager since February 2014, stepped down when he was appointed to be DFA's head of portfolio management for Asia-Pacific, while Stephen Clark, who had been a named manager since 2008, exited to focus more on his role as DFA’s head of institutional services for North America.

The named managers lead a broader team of portfolio managers who provide additional support for the fund. The firm's traders are also an important part of the team. They have discretion to decide which securities to trade from an approved list to build the portfolio in the most cost-efficient way.

Parent Pillar: Positive | 06/07/2018
Dimensional Fund Advisors continues to be an outstanding steward of its shareholders' capital and maintains its Positive Parent Pillar rating. The firm is under new management following turnover at both co-CEO positions in 2017. David Butler and Gerard O'Reilly now share responsibilities for guiding the organization. But Dimensional's culture remains strong, and it continues to follow a singular investment philosophy that is rooted in market efficiency and transaction cost management.

All of Dimensional's investment strategies are subjected to a rigorous vetting process that is overseen by some of the top academics in the industry. Modifications to existing processes and the introduction of new strategies are few and far between. Proposed changes must meet a strict set of criteria and be exploitable in a well-diversified, low-turnover, cost-effective manner. Manager retention at the firm is high, and several managers are employed to watch over each fund. This team-oriented approach maintains continuity and minimizes any potential issues when turnover occurs.

Dimensional requires that investors access their funds through an approved investment advisor or platform. Limited access acts like a barrier that protects funds from short-term trading, which can increase transaction costs and harm the interests of long-term shareholders.

Price Pillar: Positive | Ben Johnson, CFA 12/12/2018
This is one of the cheapest real estate funds available, meriting a Positive Price rating. It charges 0.18%, considerably lower than the median expense ratio of similarly distributed real estate funds (1.00%). That said, there are cheaper alternatives. Vanguard Real Estate Index's Admiral shares (VGSLX) and exchange-traded fund shares (VNQ) each charge a 0.12% expense ratio. The least expensive option in the category is Schwab U.S. REIT ETF (SCHH), which charges 0.07%.

Ben Johnson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.