REIT Funds Rush Ahead

If you want to know why real estate funds have been flying, just hold a mirror up to a Treasury bond chart.

Over the last month the average real estate fund has risen 4.7%, according to fund tracker Morningstar. Shares of the iShares Cohen & Steers Realty Majors Index (ICF) exchange-traded fund have done even better, rising 7.5% since early April. Meanwhile the S&P 500 has fallen nearly 1%.

Fund managers link the monthlong REIT rally to a sharp drop in bond yields. They started falling as investors worried about an economic slowdown after the April 1 release of disappointing March payroll numbers. The REITs' run finally petered out last week after April payroll numbers surged past expectations, pushing bond prices back up -- and yields back down.

REIT watchers say the correlation is no mistake.

"REITs generally move on three things: interest rates, equity market fund flows and underlying sentiment toward real estate," says Sam Lieber, portfolio manager for the $535 million (EUEYX)Alpine U.S. Real Estate Equity fund. "Right now interest rates seem to be the biggest factor, as REIT indexes are a mirror image of the 10-year Treasury."

Even after the furious spring rally, real estate funds remain down 2% this year. Still, it's hard to feel sorry for fundholders. The asset class has returned 18.47% annually over the past five years, making it the best-performing category at Morningstar.

REIT shares were ignored during the tech bubble as investors chased after growth companies. After the bubble's collapse, however, investors about-faced and poured their investment dollars into steady, income-producing assets such as REITs.

The 12-month yield on the average real estate fund is 3.15%. Because of price appreciation in the underlying shares, that's not as juicy as it used to be. But it's still fairly compelling in the current low-yield environment, where a one-year CD yields just above 3.25% and offers no chance of the double-digit total returns REIT funds have been raking in since 2001.