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Consider an Investment in Real Estate
With today's
uncertain
economic outlook making investments in the stock and bond markets
challenging, now may be an appropriate time to reevaluate your
portfolio strategy with an eye toward alternative investments such
as real estate. Real estate has the potential to provide attractive
returns over the long term, and it can be a good diversifier for a
portfolio of traditional equity and fixed income securities.
A Lasting Attraction
To
understand why high net worth investors may be attracted to real
estate investments, one has to consider the many potential benefits.
Enhanced diversification.
When compared with traditional asset classes such as stocks
and
bonds, real estate is increasingly recognized as a distinct asset
class due to its ability
to produce
competitive risk-adjusted returns over the long term. According to
historical
data tracked by the National Council of Real Estate
Investment Fiduciaries (NCREIF), from
1978 through mid-2004, real
estate has had an annualized total return of 9.4%.*
Low
correlation to stocks and bonds.
Perhaps an even stronger argument in support
of the diversification
benefits of real estate is the low correlation with stocks and bonds
that real estate has exhibited over time. Correlation measures how
strong the
relationship is between two asset classes. In general,
the closer the correlation is to
zero, the more effective the assets
can be when used together in a portfolio. Again, citing
NCREIF data,
the correlations of real estate returns have been near zero for both
large
cap stocks (+0.08) and small cap stocks
(+0.02) over the past quarter century.*
Inflation hedge.
A
third potentially critical benefit is real estate’s capacity to
provide a
hedge against inflation. This is particularly true of
commercial properties that generate
income, which tends to rise with
inflation.
Downside Considerations
As
with any investment, real estate is not without risks. It is a
cyclical sector that, like the stock market, can go down as well as
up. Real estate is sensitive to changes in the economy and
interest rates, which may be particularly significant given the
Federal Reserve’s current policy of raising short-term interest
rates. Real estate is also an illiquid investment that requires a
long-term commitment of capital.
Harnessing a Vast Universe
The
U.S. commercial real estate market is vast and varied. There are
public and private markets consisting of equity and debt
opportunities. There are broad categories of properties—apartments,
industrial, office, and retail—within which lie numerous
subcategories and selection criteria.
For
this reason, perhaps the most effective way of harnessing the
diversification potential of real estate is to invest in a fund of
funds. Instead of holding just one property or one portfolio of
properties, a fund of funds invests in a diversified portfolio of
real estate funds—each of which holds
a broad array of properties. The multiple layers of diversification
made possible via a fund of funds help investors obtain a level of
exposure to real estate that would otherwise be impossible to
duplicate.
Glenmede would be happy to discuss real estate opportunities or
other portfolio diversification strategies that are appropriate for
you. Email us at
mailbox@glenmede.com
* Source: NCREIF
Property Index for the 26-year period ended June 30, 2004.
The National Council of Real Estate Investment Fiduciaries (NCREIF)
is a U.S.-based organization that tracks the performance of direct
private property investments.
Summer 2005
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