Options are limited when tracking property returns

There are a number of open-ended funds and investment trusts which invest in commercial property, but there are also a few property ETFs listed in London. However iShares UK Property UCITS ETF is the only one which focuses on the UK, and unlike a number of unit trusts and investment trusts, does not invest directly in property but buys shares in property companies. This includes a number of the investment trusts focused on the sector, as well as some of the best known UK property firms such as Land Securities Group (LAND), British Land (BLND) and Hammerson (HMSO). It tracks the FTSE EPRA/NAREIT UK Index and uses physical replication - it buys the shares it tracks rather than getting its exposure via a swap.

Because property ETFs buy shares rather than property it means they are more likely to move in line with stock markets than the property market, and so may not provide as much diversification for your portfolio as a fund which directly invests in property. This means they could not necessarily be used to dampen the volatility in your portfolio like a bricks and mortar fund, although they have the potential for greater upside.

They can also be influenced by movements in bond yields, for example, if the yield on UK government bonds rises it could push their value down, according to Christopher Aldous, managing director of wealth manager Evercore Pan Asset.

iShares UK Property UCITS ETF only has a yield of 2.31 per cent, which is not as attractive as that which a number of the active funds offer, and does not have a very good tracking error over longer periods.

This is one of the reasons why some argue that ETFs are not the best way to get exposure to property, in particular, UK property.

"I am not convinced this is a good way to play the current uptick in UK commercial property," says Peter Sleep, senior portfolio manager at Seven Investment Management. "This ETF is heavily weighted towards London and the London office market in particular, which has been rising strongly for a number of years already. I think if you are looking at commercial property you might want to look outside London and you cannot be that specific with an ETF. You may have to buy a specific fund or a specific real estate investment trust (Reit)."

Active managers such as Fiona Rowley, who runs IC Top 100 Fund M&G Property Portfolio (GB00B6S0YV23), are buying London property selectively and looking to secondary property in areas outside London to exploit value opportunities.

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However, iShares UK Property UCITS ETF is much cheaper than its active equivalents with an expense ratio of 0.4 per cent, while many of the directly investing UK commercial property trusts trade on premiums to net asset value. And property ETFs could provide some sector diversity to your portfolio if you don't have much exposure to property shares.

Adam Laird, head of passive investments at Hargreaves Lansdown, says: "Whilst Reits are more liquid than buying bricks and mortar, they move up and down with stock market so can be more volatile in the short run. But this is a long term investment and over the long run will behave more like property prices, so diversifying your portfolio."

Overseas exposure

Although there is only one UK property ETF, there are a number of overseas ones listed in London. "I think overseas exposure is beneficial and adds more diversification," says Mr Laird. "These ETFs include HSBC FTSE EPRA/NAREIT Developed ETF (HPRO). But investors need to be cautious as this particular ETF can have a large spread, so can be costly to buy and sell."

But it has a reasonable ongoing charge of 0.4 per cent and has tracked its index very closely over one year, though does not have a longer track record because it was only launched in June 2011.

Mr Sleep also suggests BlackRock Global Property Securities Equity Tracker (GB00B64XTP40), which is also relatively low cost, with a TER of only 0.6 per cent.

However, the US accounts for nearly half of the assets of both these funds and Mr Aldous says: "Although the US is a much bigger sector it is particularly linked to bond yields, and this is not a great time to be buying US commercial property."

However he thinks that Europe could be more interesting because bond yields may go down there, although investors face currency risk. There are three ETFs focused on European property which include iShares European Property Yield UCITS ETF (IPRP) which tracks the FTSE EPRA/NAREIT Developed Europe ex UK Dividend+ Index. This offers exposure to listed real estate companies and Reits from developed European countries excluding the UK, which have a one year forecast dividend yield of 2 per cent or greater. This fund has outperformed its index since inception and has an expense ratio of 0.4 per cent.

The Netherlands accounts for more than a third of its exposure, and it also has 15.8 per cent in France and 15.68 per cent in Germany.

By contrast, a number of the overseas focused active property investment trusts have very high ongoing charges, some in excess of 5 per cent, though IC Top 100 Fund TR Property (TRY) which invests in a diversified portfolio of European property equities only charges 1.58 per cent.

If you do invest in a passive fund, Chris Stevenson at Barclays Stockbrokers says you should be aware of what the index you are tracking contains and understand the dynamics of that particular property market.

Because active directly investing funds and passive property equity tracking funds do different things, Mr Aldous suggests that you could have some exposure to both.

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Source: BlackRock, HSBC.