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Quarter Trillion Dollar Pension Plan Adding Real Estate to Decrease Volatility

Posted by Vident Financial on 9/10/20 12:26 PM

According to the trade journal IPE Real Assets, one of the largest pension funds (almost a quarter trillion dollars in assets) in America is increasing its allocation to Real Estate.

“California State Teachers’ Retirement System (CalSTRS) is planning to increase its real estate allocation target from 13% to 14% due to market volatility.

“In September last year, IPE Real Assets reported that the pension fund had a long-term plan to increase its real estate target allocation from the current 13% to 15% and reduce its allocation to public equity.

“The changes were to help improve diversification, enhance portfolio down-side protection and take advantage of the risk-return profile of private assets as outlined in the investor’s ”collaborative model” initiative.

“In a meeting document, the $243bn pension fund’s investment consultant Meketa Investment said the increase being made now is mostly due to the private real estate’s allocation increasing as a proportion of the overall portfolio due to volatility.”

This decision makes sense when one reviews the past decade’s worth of return and volatility. Look at REITs below and you see it just slightly to the right of center when it comes to volatility, making it only slightly more volatile than all asset classes seen here, but less volatile than almost all other forms of equity shown except dividend stock and hedge funds.

Risk and Return by Asset Class 1

Risk and Return by Asset Class 2

Source: Asset Class Risk and Return Over the Last Decade, Visual Capitalist, July 2020)

Here are the actual numbers:

 

Asset Class

Annualized Return

Annualized Standard Deviation

Global Commodities

-5.38%

16.60%

Emerging Markets Equity

-0.89%

16.95%

Treasury Coupons

0.73%

0.81%

Investment Grade Bonds

3.17%

2.92%

Hedge Funds

4.05%

5.70%

Corporate Bonds

5.55%

5.26%

Global Listed Private Equity

5.59%

18.63%

1-5yr High Yield Bonds

6.71%

1.00%

Global Equity

6.75%

12.50%

Global Equity - ESG Leaders

6.87%

12.03%

Taxable Municipal Bonds

7.20%

7.33%

Real Estate Investment Trusts

8.44%

11.03%

U.S. Mid Cap Equity

11.00%

13.60%

U.S. Large Cap Equity

11.22%

11.39%

Dividend-Paying Equity

11.81%

10.24%

U.S. Small Cap Equity

11.87%

14.46%


They show the same thing: Real Estate Investment Trusts with annualized return over ten years of 8.44% but with volatility of only 11.03%, compared with mid- and small-cap equity volatility of 13.6% and 14.46% respectively.

 

Clearly, REITS -- while legally structured as equity -- have characteristics somewhat between debt and equity. We've seen that be true in terms of returns*, now we see the same thing in volatility. Given its distinct characteristics, even investors who are not concerned about volatility, should ask themselves whether they truly are diversified if they don't have Real Estate as an asset class.

 

Sources:

*”Does Real Estate Offer Yield In A Low-Yield Environment?” Vident Financial, March 2020

Topics: REITs

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