IIJournals JPM-Special Real Estate Article Collection | Page 5

DC plans implied by the Esrig et al. [2013] results, the
segment promises to be an increasingly important one
for institutional real estate. Further research into the
optimal manner in which to incorporate real estate in a
DC world will help to provide direction to the industry
regarding this important trend.
Even traditional real estate investors such as DB
plans continue to face issues in analyzing and managing
asset allocation strategy, especially with regard to risk. As
already noted, not only are there doubts about the appropriate way to measure return volatility, volatility does
not fully describe the risks inherent in a private market
asset class such as real estate. Thus, investors continue to
face questions as to how best to measure real estate risk,
and whether the risk measurement/management tools
commonly used for other asset classes within a portfolio
can be extended to real estate. Development of risk measurement tools appropriate to real estate but comparable
to those used for public market asset classes would be an
invaluable service to chief investment officers, as these
tools would allow a more holistic examination of risk
in a portfolio across all asset classes. (Such tools would
also be invaluable to real estate managers, who must discuss real estate risk with chief investment officers more
accustomed to dealing with public market assets).
Further, because individual real estate assets are
relatively large investments, many institutional real estate
portfolios are not fully diversified. This means that idiosyncratic risk of individual assets can have a large effect
on the risk faced by the investor. Unfortunately, because
real estate assets are unique and do not trade continuously, it is virtually impossible to look at the historical
volatility of an individual asset. Investors are then left
asking questions about real estate risk: What factors drive
the returns and the risks of an individual asset? Which of
these attributes are diversifiable across real estate assets?
Which are diversified within the overall portfolio? How
should real estate risk be measured, and how should it
be incorporated into a portfolio-wide risk management
system? Of course, within other asset classes, common
techniques to manage risk exposure depend on derivatives, a market not yet fully developed for real estate.
Fabozzi et al. [2013] review the state of the real estate
derivatives market, especially in the United Kingdom
where the market is most developed, and how to use
derivatives to manage real estate price risk. While still
in its infancy, the development of a viable and liquid
derivatives market would do much to bring modern risk
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management techniques within the grasp of real estate
portfolio managers.
The trend toward new definitions of asset classes
potentially complicates some of these questions on
optimal real estate allocations. The traditional approach
of breaking the world into stocks, bonds, cash, and alternatives, which has held for decades, is beginning to fall
out of favor with a growing number of investors. In its
place, many investors have now adopted more generally
defined asset classes, such as growth, income, and safety,
which are characterized according to specific “asset
characteristic bundles” or “risk–return buckets” rather
than asset type, each of which might include a variety
of assets from across the traditionally defined classes.
In some cases, investors now use a specific inf lationhedging bucket as an asset class, while other investors use
a real assets class, and still others have adopted a private
market versus public market breakdown of asset classes.
There are many variations on those themes and variations on which real estate assets fall within a class; for
instance, real estate may or may not be placed within the
inf lation-hedging category, depending how a particular
investor views the role of property within the portfolio.
In many cases, real estate may fall into more than one
asset class, under new definitions. Different real estate
assets have different orientations to growth, income,
inf lation hedging, and other basic characteristics. It is
entirely possible that different types o