Analyzing the performance of non-listed real estate funds: an panel data analysis

The rapid growth of non-listed real estate funds over the last several years has contributed towards establishing this sector as a major investment vehicle for gaining exposure to commercial real estate. Academic research has not kept up with this development, however, as there are still only a few published studies on non-listed real estate funds. This paper aims to identify the factors driving the total return over a seven-year period. Influential factors tested in our analysis include the weighted underlying direct property returns in each country and sector as well as fund size, investment style gearing and the distribution yield. Furthermore, we analyze the interaction of non-listed real estate funds with the performance of the overall economy and that of competing asset classes and found that lagged GDP growth and stock market returns as well as contemporaneous government bond rates are significant and positive predictors of annual fund performance.

Portfolio size and the reduction of dispersion: the case of the United Kingdom commercial real estate market

This paper investigates the potential benefits and limitations of equal and value-weighted diversification using as the example the UK institutional property market. To achieve this it uses the largest sample (392) of actual property returns that is currently available, over the period 1981 to 1996. To evaluate these issues two approaches are adopted; first, an analysis of the correlations within the sectors and regions and secondly simulations of property portfolios of increasing size constructed both naively and with value-weighting. Using these methods it is shown that the extent of possible risk reduction is limited because of the high positive correlations between assets in any portfolio, even when naively diversified. It is also shown that portfolios exhibit high levels of variability around the average risk, suggesting that previous work seriously understates the number of properties needed to achieve a satisfactory level of diversification. The results have implications for the development and maintenance of a property portfolio because they indicate that the achievable level of risk reduction depends upon the availability of assets, the weighting system used and the investor’s risk tolerance.

Changes in the relative importance of sector and regional Factors: 1987-2002

A stylised fact in the real estate portfolio diversification literature is that sector (property-type) effects are relatively more important than regional (geographical) factors in determining property returns. Thus, for those portfolio managers who follow a top-down approach to portfolio management, they should first choose in which sectors to invest and then select the best properties in each market. However, the question arises as to whether the dominance of the sector effects relative to regional effects is constant. If not property fund managers will need to take account of regional effects in developing their portfolio strategy. We find the results show that the sector-specific factors dominate the regional-specific factors for the vast majority of the time. Nonetheless, there are periods when the regional factors are of equal or greater importance than the sector effects. In particular, the sector effects tend to dominate during volatile periods of the real estate cycle; however, during calmer periods the sector and regional effects are of equal importance. These findings suggest that the sector effects are still the most important aspect in the development of an active portfolio strategy.

Individual assets, market structure and the drivers of return

Much UK research and market practice on portfolio strategy and performance benchmarking relies on a sector‐geography subdivision of properties. Prior tests of the appropriateness of such divisions have generally relied on aggregated or hypothetical return data. However, the results found in aggregate may not hold when individual buildings are considered. This paper makes use of a dataset of individual UK property returns. A series of multivariate exploratory statistical techniques are utilised to test whether the return behaviour of individual properties conforms to their a priori grouping. The results suggest strongly that neither standard sector nor regional classifications provide a clear demarcation of individual building performance. This has important implications for both portfolio strategy and performance measurement and benchmarking. However, there do appear to be size and yield effects that help explain return behaviour at the property level.

The future returns for property required by UK pension funds

In the 1970s Real Estate represented over 17% of the average pension funds total assets. Today such funds hold less than 4%, a figure not seen since the 1960s. This reduction in Real Estate holdings is mainly attributable to the relatively poor performance of Real Estate against other asset classes since the 1980s. Whether pension funds will increase their holding at any point in the future depends therefore on the expected return of Real Estate by comparison with that required to justify a particular asset holding. Using the technique of Modern Portfolio Theory (MPT), this paper assesses the required return that Real Estate would have to offer to justify a 15% holding in a mixed asset portfolio. This figure and the risk/return characteristics of the major asset classes is taken from survey data. Under a number of scenarios it is found that Real Estate can play a part in a mixed asset portfolio at the 15% level. In some cases however, the expected returns of Real Estate are not sufficient to justify a weight of 15% in this asset.

The future returns for property required by UK pension funds: the BHS data

Previous studies of the place of Property in the multi-asset portfolio have generally relied on historical data, and have been concerned with the supposed risk reduction effects that Property would have on such portfolios. In this paper a different approach has been taken. Not only are expectations data used, but we have also concentrated upon the required return that Property would have to offer to achieve a holding of 15% in typical UK pension fund portfolios. Using two benchmark portfolios for pension funds, we have shown that Property's required return is less than that expected, and therefore it could justify a 15% holding.

Linkages between property asset returns and interest rates: evidence for the UK

This paper considers the effect of short- and long-term interest rates, and interest rate spreads upon real estate index returns in the UK. Using Johansen's vector autoregressive framework, it is found that the real estate index cointegrates with the term spread, but not with the short or long rates themselves. Granger causality tests indicate that movements in short term interest rates and the spread cause movements in the returns series. However, decomposition of the forecast error variances from VAR models indicate that changes in these variables can only explain a small proportion of the overall variability of the returns, and that the effect has fully worked through after two months. The results suggest that these financial variables could potentially be used as leading indicators for real estate markets, with corresponding implications for return predictability.

Housing and property restitution and IDP return in Kosovo

The establishment of the Housing and Property Directorate (HPD) and Claims Commission (HPCC) in Kosovo has reflected an increasing focus internationally on the post-conflict restitution of housing and property rights. In approximately three years of full-scale operation, the institutions have managed to make a property rights determination on almost all of the approximate 30,000 contested residential properties. As such, HPD and HPCC are being looked to by many in other post-conflict areas as an example of how to proceed. While the efficiency of the organizations is commendable, one of the key original goals - the return of displaced persons to their homes of origin - has to a large degree been left aside. The paper focuses on two distinct failures of the international community with respect to the functioning of HPD/HPCC and its possible effect on returns: a failure of coordination between HPD/HPCC and other organizations working on returns, and the isolation of residential property rights determinations from other aspects of building a property rights-respecting culture in Kosovo.

An analysis of commercial real estate returns: is there a smoothing puzzle?

In this paper we investigate the commonly used autoregressive filter method of adjusting appraisal-based real estate returns to correct for the perceived biases induced in the appraisal process. Since the early work by Geltner (1989), many papers have been written on this topic but remarkably few have considered the relationship between smoothing at the individual property level and the amount of persistence in the aggregate appraised-based index. To investigate this issue in more detail we analyse a sample of individual property level appraisal data from the Investment Property Database (IPD). We find that commonly used unsmoothing estimates overstate the extent of smoothing that takes place at the individual property level. There is also strong support for an ARFIMA representation of appraisal returns.

Systematic property risk: quantifying UK property betas 1983-2005

The increased frequency in reporting UK property performance figures, coupled with the acceptance of the IPD database as the market standard, has enabled property to be analysed on a comparable level with other more frequently traded assets. The most widely utilised theory for pricing financial assets, the Capital Asset Pricing Model (CAPM), gives market (systematic) risk, beta, centre stage. This paper seeks to measure the level of systematic risk (beta) across various property types, market conditions and investment holding periods. This paper extends the authors’ previous work on investment holding periods and how excess returns (alpha) relate to those holding periods. We draw on the uniquely constructed IPD/Gerald Eve transactions database, containing over 20,000 properties over the period 1983-2005. This research allows us to confirm our initial findings that properties held over longer periods perform in line with overall market performance. One implication of this is that over the long-term performance may be no different from an index tracking approach.

The impact of country risk on international real estate returns

Commercial real estate investors have well-established methods to assess the risks of a property investment in their home country. However, when the investment decision is overseas another dimension of uncertainty overlays the analysis. This additional dimension, typically called country risk, encompasses the uncertainty of achieving expected financial results solely due to factors relating to the investment’s location in another country. However, very little has been done to examine the effects of country risk on international real estate returns, even though in international investment decisions considerations of country risk dominate asset investment decisions. This study extends the literature on international real estate diversification by empirically estimating the impact of country risk, as measured by Euromoney, on the direct real estate returns of 15 countries over the period 1998-2004, using a pooled regression analysis approach. The results suggest that country risk data may help investor’s in their international real estate decisions since the country risk data shows a significant and consistent impact on real estate return performance.

Property funds: how much diversification is enough?

t is well known that when assets are randomly-selected and combined in equal proportions in a portfolio, the risk of the portfolio declines as the number of different assets increases without affecting returns. In other words, increasing portfolio size should improve the risk/return trade-off compared with a portfolio of asset size one. Therefore, diversifying among several property funds may be a better alternative for investors compared to holding only one property fund. Nonetheless, it also well known that with naïve diversification although risk always decreases with portfolio size, it does so at a decreasing rate so that at some point the reduction in portfolio risk, from adding another fund, becomes negligible. Based on this fact, a reasonable question to ask is how much diversification is enough, or in other words, how many property funds should be included in a portfolio to minimise return volatility.

International evidence on the predictability of returns to securitized real estate assets: econometric models versus neural networks

The performance of various statistical models and commonly used financial indicators for forecasting securitised real estate returns are examined for five European countries: the UK, Belgium, the Netherlands, France and Italy. Within a VAR framework, it is demonstrated that the gilt-equity yield ratio is in most cases a better predictor of securitized returns than the term structure or the dividend yield. In particular, investors should consider in their real estate return models the predictability of the gilt-equity yield ratio in Belgium, the Netherlands and France, and the term structure of interest rates in France. Predictions obtained from the VAR and univariate time-series models are compared with the predictions of an artificial neural network model. It is found that, whilst no single model is universally superior across all series, accuracy measures and horizons considered, the neural network model is generally able to offer the most accurate predictions for 1-month horizons. For quarterly and half-yearly forecasts, the random walk with a drift is the most successful for the UK, Belgian and Dutch returns and the neural network for French and Italian returns. Although this study underscores market context and forecast horizon as parameters relevant to the choice of the forecast model, it strongly indicates that analysts should exploit the potential of neural networks and assess more fully their forecast performance against more traditional models.

An analysis of commercial real estate returns: an anatomy of smoothing in asset and index returns

In this article, we investigate the commonly used autoregressive filter method of adjusting appraisal-based real estate returns to correct for the perceived biases induced in the appraisal process. Many articles have been written on appraisal smoothing but remarkably few have considered the relationship between smoothing at the individual property level and the amount of persistence in the aggregate appraisal-based index. To investigate this issue we analyze a large sample of appraisal data at the individual property level from the Investment Property Databank. We find that commonly used unsmoothing estimates at the index level overstate the extent of smoothing that takes place at the individual property level. There is also strong support for an ARFIMA representation of appraisal returns at the index level and an ARMA model at the individual property level.