Real estate adds diversification, but how should you invest?

By all measures, the real estate sector, along with the rest of the economy, is roaring again. Just look at median home prices of existing homes. In July they were $244,100, a 5.3 percent rise from the same period a year before, according to the National Association of Realtors.

That, plus historically low interest rates, has made investors take notice.

“I used to have people say, ‘I need a 6 percent yield on my investments to retire,'” said Michael Berry, a certified financial planner and CPA based in Seattle. “I don’t know where you’re going to find it these days, except in real estate.”

A couple looks over their home renovation progress in Arlington, VA.

Brooks Kraft LLC | Corbis | Getty Images

Indeed, the average yield of stocks in the Standard & Poor’s 500 index is 2.29 percent, and the 10-year Treasury note yields just 1.69 percent. But real estate can yield more than that, while also adding important diversification to a portfolio.

Diversification factor

Real estate has a low correlation to stocks and bonds. Because it’s a lagging economic indicator — it rises and falls well after the rest of the economy — it moves differently than stocks or bonds. What’s more, real estate markets are unique. The factors that can sink home prices in one market can have no bearing on another, though not always.

“Global real estate is an enormous part of the global economy, so it should have a role in an investor’s portfolio,” said CFP Daniel Kern, chief investment strategist with TFC Financial Management in Boston.

He recommends a 5 percent to 10 percent allocation over your overall portfolio.