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Commercial real estate has become increasingly global over recent years, as investors look beyond their domestic market to maximise returns and increase diversification. According to Real Capital Analytics, around one-quarter of global transactions over the last five years has involved crossborder investment. This is a rising trend, with over half of all transactions by volume in Europe during 2017 involving non-domestic investors.
When building successful real estate portfolios, investors need to understand fully the performance and risk characteristics of the markets and individual assets in which they are investing. The physical nature of real estate makes portfolio construction more challenging than for equities and bonds. Therefore, very few truly global portfolios exist.
This leads to difficulties when trying to create global benchmarks as there is not a large peer group with which to compare performance. This can lead to a vicious circle whereby low levels of market transparency can stunt the emergence of new global portfolios.
To solve this problem, real estate index providers have sought to compile indices that track global market performance. These aid transparency by providing a reference point from which investors can gauge their portfolio’s performance. A suite of IPD indices from MSCI and a collaborative effort from trade associations INREV, ANREV & NCREIF seek to provide an insight into aggregate performance across various countries in Europe, North America & Asia-Pacific.
For example, regional indices such as the IPD Pan European Property Fund Index have provided more clarity around the returns achievable within the pan-European universe. This peer group benchmark has grown from just three funds in 2005 (of which the Standard Life Investments European Property Growth Fund was one) to 15 funds in 2017. In that time, net asset value has increased from £1 billion to £17 billion (see chart).
When constructing a global portfolio, the performance of national markets, combined with information on their relative sizes, are important considerations. A reference point is still useful even if the portfolio’s mandate is to beat an absolute return or economic target. That is not to say that a portfolio should only invest in countries included within the benchmark.
The main multinational real estate benchmarks rely on data contribution from real estate owners and managers, as there is no publicly available pricing for these private assets. This leads to a situation whereby a traditional benchmark cannot exist for a country until a critical mass of investors own and manage assets there. As a result, early movers may well need to take positions in more opaque markets. In this case, they will need to take a research-driven approach, using all available data sources, in order to manage their investments from a risk perspective.
The benefits from building global portfolios are significant. They can help investors take advantage of a wide range of returns available across markets, thus delivering diversification benefits. Having the widest possible opportunity set also gives flexibility to create a portfolio with a risk and return profile that best helps achieve the portfolio’s mandate.
Having a reference point for portfolio weightings and expected returns is vital for monitoring risks and understanding relative performance. Continued transparency from a wider selection of benchmarks, and increased global coverage, will aid the formation of more global portfolios. In turn, this will increase transparency and provide more ways in which investors can access real estate to achieve their investment goals.
Investment involves risk. The value of investments, and the income from them, can go down as well as up and an investor may get back less than the amount invested. Past performance is not a guide to future results.