Portfolio Update - January: New Year, Higher Rates
- Rates soared again. The market is forecasting minimal rate cuts for 2025.
- The increase in Treasury yields had a negative impact throughout the sector with most valuations going down.
- We’re still sitting on a healthy pile of cash. I’ve been hesitant to deploy much due to the rate at which Treasury yields are climbing.
- Asking for member feedback on the readability of the chart for equity REIT positions. I want to make sure they are easy for our members to read on whichever devices they regularly use. Try using the comments to share your feedback.
- If you run into any difficulties, let me know and I'll help you through it.
- I’ll cover potential upcoming trades in the section for paid members. The rest of the article is available to everyone.
Article Begins
Interest rates are easily the biggest headwind we’re facing as REIT investors. Any light at the end of the tunnel just turns into another train.
The 2-year Treasury rate increased, despite the Federal Reserve reducing short-term rates.
Source: MBSLive
The market is pretty much done with relying on the Federal Reserve to cut rates. It is pricing in a “maybe” for one cut over the next 6 months. The full year projections give the following probabilities:
- 3 cuts 6.2%
- 2 cuts: 22%
- 1 cut: 40.7%
- 0 cuts: 29.9%
We knew from the start that higher interest rates were not going to solve inflation because the inflation was not created by excessive amounts of demand. Inflation is down dramatically, but it wasn’t because of higher rates. As much as the Federal Reserve would like credit, that simply wasn’t it.
The primary tool for measuring inflation, the CPI, relies on severely delayed data for housing (rental) and insurance costs. That process results in smoothing out inflation and claiming it happens much later than it does.
Market rent for apartments is starting to trend higher again, but the Federal Reserve won’t see that. Why is it trending higher? Because much of the excess supply has been absorbed. We’re going to enter a period where there is far less supply coming to market because higher interest rates drove a sharp reduction in construction.
Rents are also supported by a combination of elevated prices for single-family homes and higher interest rates. Since home ownership became more expensive (insurance is also more expensive), rents can increase again.
The yield curve has a positive slope again as the 10-year Treasury rate is higher than the 2-year rate and higher than the short-term (1-month to 3-month) rates.
Was the short-term reduction in inflation worth the trillions added to future interest expense?
I don’t think so, but the Federal Reserve never has to quantify the impact.
Not to fear, I’ll do it for them. I’m going to use 2% and 4.5% since 4.5% is about equal to the average rate across the curve today and it was well under 2% before the Federal Reserve took action.
- Take $36 trillion in debt.
- Change the interest rate from 2% to 4.5%. We’ll just pretend all the debt rolls at once, rather than rolling over some of it each year.
- Simple math: $36.3 trillion * 2.5% = $907 billion per year in additional interest expense.
A little more math on a “per citizen” level:
- Total debt per citizen: $106,900
- Interest expense at 2% per citizen: $2,138
- Interest expense at 4.5% per citizen: $4,811
- Increase due to Federal Reserve: $2,673
Or on a “per taxpayer” basis:
- Total debt per taxpayer: $323,075
- Interest expense at 2% per taxpayer: $6,462
- Interest expense at 4.5% per taxpayer: $14,538
- Increase due to Federal Reserve: $8,077
Were the actions of the Federal Reserve worth $8,077 per year in perpetuity? That’s not paying down the principal. That’s just paying the interest.
While the 2-year rate increased, the 10-year rate shot higher:
Source: MBSLive
It’s been a pretty tough period for our sectors because of the sensitivity to interest rates.
Portfolio Updates
You can find prior installments of the Portfolio Updates on the Portfolio tab of our website.
Older editions of the Portfolio Update are unlocked for everyone. The newest release reserves the foreshadowing section for paid members (for a couple of weeks).
Trade Alerts
We have a page on our REIT Forum website to link all trade alert articles.
Here are The REIT Forum’s trade alerts.
Layout - Modified Order
To keep things simple for our investors, the rest of the portfolio update is divided into several segments. We run the same segments (with new content) each week.
We usually maintain the same order from month to month, but I revised the order to work better with free previews. Eventually, the order will be locked in again.
- Returns on Total Portfolio
- Sector Allocation
- Reminder About Cash
- Housekeeping
- Recently Closed Positions with Returns
- Recently Opened Positions with Returns
- All Open Positions by Sector with Returns
- Outlook
- Foreshadowing Potential Trades (paid section)
This layout maximizes transparency while keeping the foreshadowing of our potential trades within the paid section. It also loads the images together at the front, while putting the text-heavy sections together at the end.
Returns on Total Portfolio
The chart below shows our performance since we began preparing for The REIT Forum at the start of 2016 through the end of the latest month:
There are four major index ETFs we use for evaluating performance. They are:
- (MORT) $MORT - Major mortgage REIT ETF
- (PFF) $PFF - The largest preferred share ETF
- (VNQ) $VNQ - The largest equity REIT ETF
- (KBWY) $KBWY - The high-yield equity REIT ETF most retail investors follow
Annual comparison vs. each ETF:
Our performance vs. the average of the ETFs:
We evaluate alpha based on performance against the ETFs because it strips out the general change in our sectors.
The next chart shows the change in the value of our portfolio from month to month. We strip out the impact from contributions made during the month because, obviously, contributions are not returns.
The prior year is included as well to help investors see how the calculations work.
If anyone is confused by these calculations, let me know. I believe this transparency is crucial, so I’ll include an example showing every calculation if I hear that readers have any difficulty following it.
Sector Allocation Chart -
The sector allocation chart helps to explain how we are thinking about risk and seeking returns:
Reminder About Cash (repeated)
I normally keep at least 6 months or more of living expenses in “cash”. If you normally keep around $40k to $50k in “cash”, the difference between getting paid 5% and 0.2% is around $2k per year.
I’m using (SGOV), (SHV), and (BIL) as my cash substitutes. These are short-term Treasury ETFs. Prices are extremely stable. Liquidity is excellent.
I use a Schwab business account that is not part of my portfolio. The only assets it holds are actual cash and cash substitutes (those 3 ETFs).
Nearly all my expenses go through my credit card already (paid off in full each month).
I still have my checking through USAA because of the long history on those credit cards. If I need cash, I can sell Treasury ETFs and transfer the funds to my USAA account.
It takes a few days, but that’s fine.
This is a pretty nice return for cash I was going to have there anyway.
Note: Some people think you don’t need a strong credit score after getting a mortgage. I disagree. The long history on those cards is extremely useful if I want to boost someone’s credit score. If I add someone to my card, their next update will show they have a card with 20 years of perfect history.
You can get scammed this way. You are liable for the bill. They can just charge the card and walk away. This doesn’t concern me because I keep a lower limit (such as $10k) on those cards and I’m only doing it for people I trust. If one of those people betrays me, I’ll count myself lucky that I found out for only $10k. For people who can’t afford to risk that money, this would be too dangerous.
Housekeeping
We used to have a repeated section on strategy, but I wanted to shorten the update.
I’ll be posting an article that covers our strategy in greater depth and just adding a link to that post.
We have a project underway to update our guides and improve the organization.
Recently Closed Positions with Returns
These are the positions closed during the prior calendar month. If you want to see positions that were closed before that, you can see the prior portfolio updates or use the Google Sheets.
If we didn’t close any positions for the sector during the month, then the image will be blank.
Note: By loading the Google Sheets, you can still see all of our closed positions. We only include the recently closed positions to reduce the size of the article:
Recently Opened Positions with Returns
All Open Positions by Sector with Returns
We will start with the open positions as of the end of the month. It often takes a few days to prepare this article, but the screenshots below are from the end of the prior month.
The cell with the ticker is grey if the position is in a taxable account. This was a request by a few members and there was no drawback to adding the information. All of the taxable positions are in equity REITs.
Preferred shares and baby bonds:
Equity REITs in one really tall image:
Equity REITs again, but split up into two images. Equity REITs top half:
Equity REITs bottom half:
Mortgage REITs and BDCs:
Other:
Subsequent Changes
None so far.
Foreshadowing Potential Trades
This section is usually prepared shortly before publishing. The goal is to quickly cover ideas for trades. We aim to foreshadow our trades here, though the market may move in surprising ways. While the article takes days to prepare and documents prices and performance from the end of the month, the potential trades section is written last to provide the most up-to-date pricing.
Based on the change in relative prices as of 01/13/2025 here are some of the trades on my radar.
Note: This section takes time to prepare. Market prices change. Therefore, the prices below may not be precisely the same as the price at publication, even though they were retrieved on 1/13/2025.