When investing in unlisted real estate, funds that focus on a single country or on a separate sector within a country outperform funds that diversify across countries and/or sectors, according to a Cambridge University study. By contrast, real estate funds that focus purely on one sector do not outperform diversified funds. This research was named the best of 2021 by industry body Inrev.
Specialised funds are more limited in their investment options than diversified funds that can adjust their asset allocation to sectors and markets that are promising at any given time. But according to this research, this is not an impediment to the performance of specialists. “They generally show higher total returns. Both on an unadjusted basis and when taking into account a wide range of differences in fund and market characteristics.”
Higher returns
For the study entitled “Do Specialist Funds Outperform”, Franz Fuerst, Nick Mansley and Zilong Wang analysed the performance of 592 European unlisted funds between 2001 and 2019. The central question was to what extent international diversification and sector diversification influence the performance of funds, controlled for leverage.
The researchers distinguished between sector funds that invest only in a single type of real estate, such as the Prologis European Logistics Fund; country funds that invest in a single country, such as the BlackRock UK Property Fund; and country and sector funds that restrict themselves to a single sector within a single country, such as the Amvest Residential Core Fund.
“The findings show that country specialisation leads to higher returns, while sector specialisation does not. Moreover, the results show that country-sector funds generally outperform diversified funds.”
However, it should be noted that the outperformance occurred mainly during the period of recovery and growth in the real estate market, from 2010 to 2019. Moreover, specialised country and sector funds proved more vulnerable during the financial crisis period than diversified funds.
Making choices
As to the reason for the research, the authors wrote that the choice that investors usually make when they want to invest in real estate is roughly between specialised funds and generalist funds. Specialised funds have the advantage of potentially better insight into investment opportunities and operational benefits, while diversified funds are more flexible and can bypass weaker markets.
Combining the two, i.e. specialising in different property types in different locations, is difficult within unlisted real estate, according to the authors. “Given the heterogeneity of assets, the indivisibility of real estate and the information and expertise requirements of different markets, there are significant challenges to achieving diversification.”
“Even the largest investors such as sovereign wealth funds and pension schemes rely on third-party advice for some markets or property types” they stressed. “Investors seeking internationally diversified exposure should therefore hire additional managers (separate accounts), invest in funds and/or use REITs.”
At the end of last year, the total value of global real estate was estimated by EPRA to be $31,600 thousand billion. Investments in private, unlisted real estate had an NAV of 280 billion around the same time and a gross NAV of 366 billion, according to figures from Inrev.