Abstracts for Vol. 4, No. 1 of the Journal of Real Estate Portfolio Management

The Impact of Seasonality on Investment Statistics Derived from Quarterly Returns

Richard A. Graff

The sample variance, covariance and correlation functions are not consistent estimators for the corresponding true distributional parameters when applied to returns that display seasonal behavior. Seasonality in quarterly appraisal-based returns generates sample bias that can be either upward or downward, depending on whether assets are appraised in the same or different quarters. The bias is material in magnitude and does not decrease as sample size increases. Seasonality acts in such a way as to exaggerate the apparent contribution of MPT to real estate portfolio diversification. Seasonally induced correlation bias appears to have affected some real estate diversification studies that base derivations upon quarterly return indices. The bias source can be avoided by substituting annual returns for quarterly returns in portfolio optimization input.

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Alternative Total Return Series for Direct Real Estate Investment

Terry V. Grissom and James R. DeLisle

With the recognition of real estate as a distinct asset class, there is an increasing need to understand the alternative performance measures of return available to assist in real estate decisions. This study reviews the literature and several of the available return series used in industry and supports in spirit much of the findings of previous studies that a number of problems can be identified in real estate return series and index measures. However , to achieve the perspective of real estate as an asset class and develop techniques for performance measurement in that context, the approach simply criticizing existing data and suggesting limited hope for developing appropriate measures is not a viable option. Although future techniques are expected and can be developed, there is a need to more fully utilize existing data, because long-term observations are necessary to understand cyclical performance, the nature of various relationship and to delineate equilibrium potentials. The position of this investigation is that one option is to view return series as artifacts that allow comparative analysis of real asset performance in distinct time periods. Within this context several traditional tools can be employed to abstract implicit information from existing, albeit divergent, databases to form comparable and explicit performance measures that can then be viewed in a comparative analytical context.

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Real Estate Portfolio Risk Reduction through Intracity Diversification

Marvin L. Wolverton, Ping Cheng, and William G. Hardin, III

This study examines gains in real estate portfolio efficiency obtainable through intracity diversification. Employing a unique, ten-and-a-half year, Seattle, Washington, apartment income data set and bootstrapping techniques, it uncovers five homegeneous groupings of Seattle neighborhoods with low or negative between-group apartment income correlations. Quadratic programming is used to construct a diversified investment portfolio by optimally weighing the five neighborhood groups to minimize intracity apartment investment risk. The results show significant and sizeable reductions in standard deviation of portfolio income at a given rate of return.

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Commingled Real Estate Fund Trading: The Emergence of a Formalized Secondary Trading Market

Frank J. Petkunas and Glenn R. Mueller

Since the early 1970s, private commingled real estate funds (CREFs) have served as a popular investment vehicle through which institutional investors have allocated capital to the real estate market. Because the institutional investment arena is dominated by pension funds that are either subject to ERISA "prudence," CREF securities have attracted institutional capital because of their ability to maintain diversity, value and stable returns throughout the years. Although still prevalent as a viable asset class, CREF's however have not survived peacefully without demand for alternative market structures and various criticisms initiated by market participants.

This article summarizes and identifies three of the most commonly reocurring issues, suggested by many industry professionals, to be potential structural flaws with both the CREF market and the CREF vehicle itself. The article further explores an industry reaction to alternative market structure demand; a formalized secondary market for the trading of unregistered real estate securities, and analyzes the opinions of industry participants as to the possibility of such a market improving the status quo. During the course of research for this article, thirty industry participants (thirteen fund managers, twelve plan sponsors and various representatives associated with formalized secondary market efforts) were interviewed. The interview results, along with review of industry literature, serve as the basis for identifying additional thoughts that could prove relevant to the successful operation of a formalized secondary market for CREF share trading.

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The Inflation-Hedging Characteristics of Real and Financial Assets in Hong Kong

S. Ganesan and Y.H. Chiang

This study examines whether real and financial assets in Hong Kong can hedge against inflation. Many studies have been undertaken using one or all of the three common ways of measuring inflation hedges; (1) comparison between inflation rates and rates of returns, (2) The Fama and Schwert Framework, and (3) co-integration techniques. The first method is considered inadequate due to the lack of any indication of the underlying process. Fama and Schwert proposed a methodology to measure an asset's inflation hedge against expected and unexpected inflation. Their method was adopted in many similar studies that followed. However, this methodology was criticised for being based on a static regression method, which was unable to differentiate between long-run equilibrium adjustments and short-run dynamic movement. Especially for real assets, a method of separating the long-run movements for any short-run ones is necessary. therefore, many studies have employed co-integration techniques to test for the existance of any long-run equilibrium relationship between inflation and asset returns. In order to compare the inflation-hedging characteristics of both real and financial assets in Hong Kong during an eleven-year period (from 1984 - 94), the quarterly data was subjected to analysis using both the Fama and Schwert framework and co-integration techniques. The study concludes that real assets in general are not a good hedge against inflation, in the sense the methodologies imply. Further, financial assets in Hong Kong appear to have been a better hedge against inflation that real assets.

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REIT Style and Performance

Youguo Liang and Willard McIntosh

Applying a performance style model developed by Sharpe, we investigate the style and performance of real estate investment trusts from March 1984 through December 1997. Total returns of the S&P 500, S&P MidCap 400, S&P SmallCap 600, Lehman Brothers' government bond index, and Salomon Brothers' three-month Treasury bill index are used to replicate the performance of all REIT, equity REIT and mortgage REIT portfolios. We find that all REITs and equity REITs have remarkably stable style attributes over time: they behave similarly to a portfolio of 40% small capitalization stocks and 60% bonds (including Treasury bills). The behavior of mortgage REITs however, has been more erratic. Sharpe's alpha, a performance measure similar to Jensen's alpha, indicates that equity REITs performed approximately at par to its style portfolio in recent years. REITs, in general, have become more "unique" as the R-squared value of the Sharpe model has declined dramatically over the last five years for all REITs as well as equity REITs.

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