A news release said the study provides guidance, “as well as some surprises for pension funds seeking to lower their real estate risk profiles in the wake of losses incurred during the financial crisis.”
According to the announcement, the analysis, based on approximately two decades of actual performance data, shows that an optimally blended real estate portfolio with about one-third in publicly-traded REITs and the balance in private equity real estate funds produced better risk-adjusted returns than either portfolios comprised of all REITs or all private equity real estate funds alone.
The study also found that undiversified real estate portfolios comprised of 100% core funds, commonly perceived of as the safest real estate investments and to which pension funds have dramatically increased their allocations over the past year, were actually significantly riskier than optimally blended public/private real estate portfolios.
For example, according to NAREIT, a blended real estate portfolio allocated to 50% core funds, 30% REITs and 20% opportunity funds delivered 10%–20% average annual returns in nearly 60% of rolling 5-year holding periods over the past 22 years, single digit annual returns in the other 40% of 5-year holding periods, and never produced a 5-year period of negative returns – even during 2008, 2009 and 2010 when commercial property values plummeted.
By comparison, a portfolio of core real estate funds alone produced 10%–20% average annual returns in only 40% of rolling 5-year holding periods and losses in more than 20% of 5-year holding periods.
Along with the research, NAREIT released the Real Estate Portfolio Optimizer, an interactive, software-driven tool based on the study data that pension fund managers can use to evaluate their real estate allocation strategies and optimize portfolios. The optimizer calculates the actual returns of more than 176,000 portfolios representing various allocations to REITs and private equity core, value-added and opportunity real estate funds.
The NAREIT research paper is at http://www.reit.com/portals/0/PDF/PortfolioOptimizer.pdf. The Optimizer is at http://www.reit.com/InstitutionalInvestors/Optimize.aspx.