A presentation on real estate.

1. Case A
Real Estate in a Mixed
Asset Portfolio
SUBGROUP 2 – EDOARDO FALCHETTI

2. Agenda
1. Recap and introduction
2. Summary statistics
3. Correlation analysis & bear markets
4. Mean-variance analysis
5. Incorporating real estate
6. Conclusion

3. 1. Recap and introduction
 MPT: optimal portfolio allocation among different asset classes
 Bonds, stocks, but also real estate (about one third)
 Main features of real estate
 Direct and indirect real estate
 Purpose: Is real estate a good diversifier?
 Tool: Modern Portfolio Theory

4. 2. Summary statistics
• UK market
• Bonds
• Stocks
• Direct real
estate
• Indirect real
estate
Feb. 1987 – Dec. 1999 Monthly returns

5. Annualized summary statistics
Indirect RE Direct RE Equity Bonds
Mean 8.28 10.15 13.96 10.43
Standard deviation 21.61 3.06 17.20 3.61
MIN -32.39 -1.78 -30.80 -2.54
MAX 13.10 3.56 13.06 4.35
Sharpe ratio 0.38 3.32 0.81 2.89

6. Insights on summary statistics
 Direct RE has the highest Sharpe ratio (3.32)
 Indirect RE has the lowest return and the highest volatility

7. 3. Correlation analysis & bear markets
Correlation analysis
Indirect RE Direct RE Equity Bonds
Indirect RE 1
Direct RE -0.01 1
Equity 0.74 -0.08 1
Bonds 0.14 -0.13 0.10 1

8. Insights on correlation analysis
 Quite high correlation between equity and indirect RE
 Low correlation between bonds and other asset classes
 Slightly negative correlation between direct RE and other asset classes

9. «How do the different assets perform
in bear markets?»

10. Insights on correlation analysis
 Quite high correlation between equity and indirect RE
 Low correlation between bonds and other asset classes
 Slightly negative correlation between direct RE and other asset classes

11. 4. Mean-variance analysis
 The purpose of the mean-variance analysis is to find out which is the
optimal combination of assets that minimizes the variance in the portfolio,
given an expected return (or viceversa)
 Analysis among different asset classes
 The optimal portfolio combination lies on the efficient frontier

12. 8
9
10
11
12
13
14
-2 3 8 13 18 23
Returnin%
Risk (SD) in %
Efficient portfolio
Direct and Indirect Equity and Indirect Bonds and Indirect Bonds and Direct Equity and Direct Bonds and Equity Efficient Frontier

13. 5. Incorporating real estate

14. Insights on the optimal portfolio
 Indirect RE does not represent a good diversification tool (weight=0)
 Relatively high weight for direct RE, which improves the overall portfolio
efficiency

15. Main drawbacks
 Investing in direct real estate is costly
 Differences about efficiency in the markets (apples and oranges problem)
 The results may not reflect the true optimal allocation

16. 6. Conclusions
 Direct RE can be a useful diversification tool
 Efficient frontier affected only by direct RE
 Direct RE is more efficient, but also costlier and more illiquid
 Therefore, an average individual might look for feasible alternatives