Which Real Estate ETFs Pay the Highest Yields?

Covered Call Real Estate ETFs

The first category is covered call real estate ETFs. Many of the largest publicly traded real estate companies have liquid options chains, as do several of the major REIT ETFs.

By writing calls on either, or in some cases using both, ETF managers can supplement ordinary REIT dividends with option premiums and potentially push distributions into the double digits. However, selling covered calls caps some of the portfolio's upside in exchange for receiving more income today.

One of the largest examples is the NEOS Real Estate High Income ETF

, with approximately $340 million in assets under management. IYRI benchmarks itself against the Dow Jones U.S. Real Estate Capped Index before layering a covered call strategy on top.

One attraction is tax efficiency. According to IYRI's latest Section 19(a) notice, an estimated 63% of its most recent monthly distribution consisted of return of capital (ROC). Unlike ordinary income, ROC generally isn't immediately taxable when received. Instead, it reduces the investor's cost basis, effectively deferring the potential tax liability until the shares are eventually sold. Keep in mind that Section 19(a) figures are estimates, with final tax classifications determined after year-end.

The resulting income is substantial. After accounting for IYRI's 0.68% expense ratio, the ETF currently sports a 10.93% distribution rate. For comparison, its 30-day SEC yield is only 2.97%, illustrating that much of the cash being distributed is generated beyond the income produced by the underlying REITs.

So far, the opportunity cost from selling calls has also been relatively modest. Since inception, IYRI has delivered an 18.86% annualized total return compared with 19.29% for its underlying benchmark. Whether it can remain that close during a sustained real estate bull market remains to be seen, since covered calls inherently surrender some appreciation above their strike prices.

Investors looking for a more actively managed implementation can consider the SRH REIT Covered Call ETF

, which currently manages approximately $52.6 million.

Rather than closely following a broad REIT benchmark, SRHR actively selects growth-oriented real estate companies and writes covered calls on individual holdings. This gives the managers greater discretion over both stock selection and which positions to overwrite. For investors who don't want to be beholden to an index, that flexibility may be appealing.

SRHR's income profile is consequently less aggressive. The fund currently has a 6.15% distribution rate, compared with a 4.19% 30-day SEC yield from its underlying portfolio. In exchange for the lower headline payout, its more selective options overlay should theoretically preserve greater upside participation than a strategy that more aggressively overwrites its real estate exposure.

Finally, there is the State Street Real Estate Select Sector SPDR Premium Income ETF

. The strategy takes the real estate companies represented in the S&P 500 and adds a covered call overlay.

Paradoxically, despite State Street's enormous presence in the ETF industry, XLRI is the smallest of these three funds, with just over $3 million in assets under management. It is also the cheapest, charging a relatively modest 0.35% expense ratio.

The difference between its income metrics is particularly revealing. The underlying portfolio currently produces a 2.90% 30-day SEC yield, but the options overlay helps boost XLRI's distribution rate to approximately 14.36%.

That makes XLRI the highest-distributing option of the three, but investors should expect a corresponding tradeoff. Generating that much additional cash flow through covered calls requires monetizing a meaningful amount of the portfolio's potential appreciation. If real estate stocks rally sharply, the strategy's upside capture could therefore be substantially lower.

High-Yield Screened REIT ETFs

The second approach avoids options altogether. Instead of capping upside through covered calls, these ETFs selectively screen the REIT universe to isolate the highest-yielding names, whether that means targeting the top quartile, quintile, or an even decile.

The obvious risk is that a high yield isn't always a sign of an attractive investment. Sometimes it's the result of a rapidly falling share price reflecting deteriorating fundamentals and the market's expectation of a future distribution cut. For REITs specifically, one metric investors should watch for payout sustainability is funds from operations (FFO).

Conventional earnings can be misleading because generally accepted accounting principles require real estate companies to record depreciation on their properties, even though well-maintained real estate can retain or appreciate in value over time. FFO adjusts net income by adding back real estate depreciation and amortization while accounting for gains and losses on property sales, providing a better indication of the recurring cash-generating ability available to support distributions.

High-yield REIT ETFs aren't as complicated as their covered call counterparts, but they come with their own tradeoffs. One is tax efficiency. Without an options overlay generating capital gains and losses that can be actively managed, these funds have fewer opportunities to engineer the large return-of-capital distributions available from some derivative strategies.

The largest example is the Invesco KBW Premium Yield Equity REIT ETF

, with approximately $306 million in assets under management. The fund charges a reasonable 0.35% expense ratio and, after expenses, currently sports a 7.17% 30-day SEC yield.

KBWY tracks an index developed by Keefe, Bruyette & Woods and Nasdaq. Unlike conventional REIT benchmarks that primarily weight companies according to market capitalization, this index weights its constituents according to dividend yield. The result is a concentrated portfolio of just 28 holdings with a very different profile from the broader REIT market. Small- and mid-cap companies feature prominently, with the portfolio carrying an average market capitalization of approximately $3 billion.

The risks of chasing yield are readily apparent in the fund's long-term record. Over the trailing 10 years, KBWY has returned just 0.52% annually, even assuming all of those substantial distributions were reinvested. After accounting for inflation, investors would have experienced a negative real return.

The second-largest option is the Global X SuperDividend REIT ETF

, with approximately $230 million in assets under management. It charges a higher 0.58% expense ratio but compensates investors with an 8.23% 30-day SEC yield.

Unlike KBWY, SRET isn't restricted to the United States. The fund tracks the Solactive Global SuperDividend REIT Index, which targets 30 of the highest-yielding REITs globally.

Unfortunately, its long-term results illustrate the same problem. SRET has returned just 1.02% annually over the trailing decade with distributions reinvested. Once again, adjusting for inflation would leave investors with a negative real return despite receiving substantial cash distributions along the way.

The option I prefer is also the smallest: the Hoya Capital High Dividend Yield ETF

, with approximately $108 million in assets under management. After accounting for its 0.50% expense ratio, RIET currently offers a 9.37% 30-day SEC yield, higher than either KBWY or SRET.

RIET tracks the proprietary Hoya Capital High Dividend Yield Index and takes a considerably more diversified approach. The benchmark holds 100 U.S.-listed real estate securities rather than concentrating exclusively in a few dozen of the market's highest yielders.

More importantly, it doesn't myopically screen for yield alone. The methodology incorporates balance-sheet quality by favoring companies with lower leverage profiles and diversifies its selections across 14 property sectors and three market-cap tiers. That provides some guardrails against loading the portfolio with whichever corner of the REIT market happens to be most distressed.

Please note that this article reflects the author’s personal views and does not represent the opinions of the publication or its affiliates. It is for informational purposes only and does not constitute investment advice. It is essential to seek guidance from a registered financial professional before making any investment decisions.