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 Volume 2, Number 1, 1996 of the Journal of Real Estate Portfolio Management
All articles listed here are available for download in portable document format. |
Real Estate Market Cycles, Transformation Forces and Structural Change Stephen E. Roulac Effective real estate investing depends to a very large extent on understanding real estate market cycles, transformation forces and structural changes. The essence of real estate portfolio management is crafting strategies that reflect insights into and the appropriate differentiation between (1) the cyclic phenomena (that may be expected to recur, albeit in perhaps different forms); (2) forces that transform society's relationship to place and space; and (3) structural change that is both different from what has been before and also long-lived and profound in impact. Differentiating market cycles, transformation forces and structural change from trends that may reflect a nonrecurring, short-lived pattern of preference or activity is basic to effective real estate portfolio management. The real estate market
ultimately is influenced by what happens in the overall economy, for it is the space-using
needs of businesses, households and community services that create the demand for real
estate. Understanding real estate cycles requires consideration of the
cycles that occur in the capital markets broadly and the interaction of real estate and
the broad capital markets specifically. Understanding both the new economy and the new
real estate market is fundamental to addressing the relevance of the real estate market
cycle. |
Real Estate Portfolio Diversification and Performance of the Twenty Largest MSAs John E. Williams This study evaluates the relative portfolio performance of the twenty largest MSAs by population through the application of modern portfolio theory (MPT) to economic base analysis. Each MSA is treated as a single portfolio comprised of the local industries and government services. Using employment and wage data covering the latest complete business cycle (peak July 81 to July 90 peak), portfolio risk, portfolio return and a relative risk estimate ("metro beta") were calculated for each MSA. Covariances of employment changes between industries and governmental sectors were computed to determine the "portfolio risk". Correlations of changes in aggregate employment between the MSAs were also computed in order to examine geographical diversification. In addition, the mean-variance efficiency of several naive portfolios was examined and the portfolios ranked. Findings from this study indicate that
economic base diversification by industry and government services at the MSA level yield
diversification benefits for portfolios. Moreover, geographical diversification, based on
correlations between MSAs, yields portfolio benefits that are superior to the naive
approaches that were tested. This study provides institutional real estate investors with
an another technique for improving the performance of their real estate portfolios. |
A Re-Examination of Real Estate Investment Decisionmaking Practices Edward J. Farragher and Robert T. Kleiman This study attempts to ascertain the extent to which institutional real estate investors use sophisticated decisionmaking practices. It expands on earlier studies by surveying a wider cross-section of investors and by considering a more comprehensive decisionmaking process. Overall, it appears that the responding institutional real estate investors employ fairly sophisticated investment decisionmaking practices. Strategic analysis is a regular practice for most respondents.
Eighty-three percent of the respondents quantify their return objective, but only 64%
quantify their risk objective. Most forecast before-tax, cash returns over a ten-year
investment horizon. Almost all (94%) require estimates of annual, operating returns, but
far fewer require estimates of resale return (60%), tax savings (10%), or refinancing
returns (24%). Almost all the respondents require a hazardous waste report, but less than
half require a formal feasibility analysis or an independent appraisal. Formal
quantitative risk analysis is required by only one-third of the respondents with
sensitivity analysis, scenario analysis, and high-average-low forecasting being the
preferred tools. Only 35% make formal risk adjustments. The most popular evaluation
measures are the discounted cash flow measures, which are required by 68% of the
respondents. Approximately three-quarters of the respondents require a formal
implementation plan, but post-auditing is required by only 61% of the respondents. |
Hedging REIT Returns Using the Futures Markets Pete H. Oppenheimer Modern portfolio theory demonstrates that investors minimize risk by diversifying their holdings over asset classes containing different return patterns. Past research in real estate has compared returns on direct ownership in real estate assets with equity instruments for their portfolio diversification benefits and inflation hedging characteristics. Also, the literature has examined REIT returns for their co-movement with inflation, common stock returns, and returns generated from direct ownership in real estate. Specialty mutual funds that invest in a single industry attempt to diversify risk by purchasing equity interests across a broad range of companies within the industry. In addition, a manager may use the futures markets for hedging against industry risk. This study uses
historical market data to investigate hedging a REIT portfolio with stock and Treasury
future contracts. Johnson's (1960) minimum variance hedging strategy is used to reduce the
systematic risk in a REIT portfolio. Stepwise multiple regression identifies futures
contracts that contain significant (positive or negative) correlation with the returns
from the REIT portfolio. The regression equation's betas represent the optimal hedging
ratios for the number of futures contracts needed to minimize the variance of the REIT
portfolio's returns. Results of the study show that futures contracts on Treasury debts
provide the best cross-hedging during the period of study. This may be due to investors'
yield expectations forcing REIT returns to perform similar to debt instruments. Problems
associated with using historical return data to construct ex-ante hedging ratios compared
to ex-post hedging ratios are also demonstrated. In addition, the Working's (1953) hedging
strategy is discussed as an alternative to Johnson's minimum variance hedging strategy. |
The Hedged REIT Index and Mixed-Asset Portfolios Youguo Liang and James R. Webb As international investing becomes more and more popular, studies of mixed-asset portfolios can no longer ignore foreign securities. This study investigates the role of U.S. commercial real estate in mixed-asset portfolios consisting of U.S. common stocks, U.S. bonds and international common equity. Historically, real estate performance has been measured by appraisal-based indices, such as the Russell-NCREIF index. It is well known that these indices suffer from appraisal-smoothing and seasonality problems. Therefore, using the Russell-NCREIF index, for example, in asset allocation decisions might be incorrect because the estimated correlations of real estate with other assets and the estimated volatility of real estate tend to be biased. A hedged equity REIT index, which reflects the returns of equity REITs after the effects of the general stock market are removed from REIT returns, is used in this study to proxy the performance of commercial real estate. The results indicate that investors should diversify into commercial real estate and international equity. For example, an efficient portfolio, which has the same expected return as a traditional portfolio of 60% stocks and 40% bonds, should have 44% of its funds in U.S. commercial real estate, 26% in U.S. common stocks, 19% in international common stocks, and 11% in U.S. bonds.   Return to the top of this web page |
Optimal Portfolio Allocations to Real Estate Gerald R. Brown and Edward J. Schuck The relatively low allocations to real estate in U.S. and U.K. institutional portfolios continues to conflict with those suggested by academic studies. Reasons put forward to explain the discrepancy have included the use of historic data, instead of expectations for the future; the use of smoothed real estate return indices, which underestimate the real estate risk/return relationship and differences in the amount of leverage used to finance real estate. Although these factors may provide some explanation for the allocation problem, they do not appear to fully explain the wide variations between theory and practice. This study adopts a
bootstrapping approach to derive ex-ante estimates of risk and correlations between common
stocks and real estate for use in a mean-variance analysis. A dynamic optimization
approach is also undertaken by allowing the inputs to the model to vary. The effects that
this has on optimal allocations to real estate in a two-asset portfolio are then explored.
The impact of differences in portfolio size is also examined. A simulation model is
estimated that shows it is possible to justify a wide range of allocations to real estate.
The final choice of allocation depends upon the forecasting skill of real estate
investors. If, on average, forecasting skill is poor, it can be shown that the low
allocations observed in practice can be justified within a traditional risk/return
framework. Introducing the possibility of investing in a riskless asset further justifies
the current low allocations to real estate. |
Mainland Chinese Investment in Hong Kong Real Estate E. M. Hastings and Ling Hin Li Over the last twenty years the People's Republic of China has become an increasingly attractive location for overseas investment monies. This inflow of funds, together with a relaxation in the socio-economic climate, has assisted in the creation of a booming economy, which in turn has generated a large number of cash-rich local companies looking for investment opportunities. The continuation of China's open door policy has allowed such funds to consider investment opportunities outside the mainland, and Hong Kong, a conveniently located market economy, provides both a comfortable environment and an ideal training ground for mainland Chinese enterprises to gain experience in capitalist investment strategies. Since real estate plays a major part in the Hong Kong economy, the Chinese investment funds have also chosen to participate in this sector. In this study, the trend of investment patterns of funds from mainland China and the implications of the involvement of such funds in the Hong Kong real estate market are examined. Return to the top of this web page |
Can You Mix Private Market and Public Market Real Estate in Your Portfolio? Glenn R. Mueller No abstract or executive summary. Return to the top of this web page |
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