Real Estate Funds That Pay Rich Yields

NEW YORK (TheStreet) -- If you are searching for decent yields, consider real estate mutual funds that focus on delivering income.

Some of these mutual funds yield more than 5%. That's an appealing payout at a time when 10-year Treasuries yield 1.94%.

Funds with fat payouts include Fidelity Real Estate Income(FRIFX), Forward Select Income(KIFAX) and Lazard U.S. Realty Income(LRIOX).

The income funds are very different from the typical members of the real estate category.

Most funds in the category invest in common shares of real estate investment trusts, which own portfolios of properties such as offices and shopping malls.

The income funds obtain extra yield by holding a mix of REIT securities, including bonds and preferred shares as well as common stock.

At a time when many REIT common shares pay dividend yields of less than 2%, yields on preferred shares range from 7% to 9%. REIT bonds yield 4% to 5%.

Like bonds, preferred shares pay fixed yields. But preferred issues yield more because they are riskier.

In the event of a default, bondholders must be paid before preferred owners receive anything.

When real estate stocks sink, prices of preferred issues also weaken as investors worry about defaults.

But preferreds are much less volatile than stocks. During downturns preferreds tend to lose less. The resilience of preferreds helps make the income funds good choices to diversify portfolios.

Over the long term, bonds tend to lag stocks, and that should cause the real estate income funds to trail their stock-oriented peers. But in recent years, bonds have cushioned downturns and enabled the income funds to excel.

"Our aim is to have a lot less risk than you find in typical real estate funds," says Mark Snyderman, portfolio manager of Fidelity Real Estate Income.

The Fidelity fund, which yields 5.1%, keeps about a quarter of its assets in common stocks. The fund holds about 20% in preferreds, and the rest is in bonds.

The big fixed-income stake has helped the Fidelity fund outperform in difficult markets. During the past five years, the fund has returned 3.4% annually, outdoing 96% of all real estate funds, according to Morningstar. In the market collapse of 2008, Fidelity outdid 99% of peers.