Chapter 22: Real Estate Investment Performance and Portfolio Considerations

1. Chapter 22: Real Estate Investment Performance and Portfolio Considerations

2. Real Estate Investment Performance Limited data Private, negotiated transactions Asset is non-homogeneous Thinly traded market Real estate specific data sources NAREIT NCREIF Property Index

3. Exhibit 22-2Cumulative Total Returns REITs, S&P 500, NCREIF, Bonds, and T-Bill Indexes, 1985-2009

4. Real Estate Investment Performance Holding Period Returns PT = End of period price PT-1 = Beginning of period price D1 = Dividends

5. Real Estate Investment Performance Example 22-1: Purchase price $100 Sales price $110 Dividend received $5 HPR = $15/$100 = 15%

6. Real Estate Investment Performance Geometric Mean Return Arithmetic Mean – a simple (non-compounded) average

7. Real Estate Investment Performance Example 22-2 Consider the following annual returns: 15%, 20%, -30%, 22% Arithmetic mean = (25+20-30+22)/4 = 9.25% Geometric mean =[(1.25)(1.2)(.7)(1.22)].25-1 Geometric mean = 6.39%

8. Real Estate Investment Performance Historical comparisons Risk Business risk Default risk (from leverage) Liquidity risk Variability in asset returns & risk premiums

9. Real Estate Investment Performance Coefficient of Variation = Standard Deviation of Returns/Mean Return Risk per unit of return Also known as “risk-to-reward” ration Portfolios Asset efficiency: Does adding an asset to a portfolio add to returns while maintaining or lowering portfolio risk? Portfolio Returns Where W’s are weights

10. Exhibit 22-8Portfolio Returns of NCREIF and S&P 500 Stocks, 1978-2009

11. Exhibit 22-9Efficient Frontiers

12. Real Estate Investment Performance Example 22-3 Portfolio Asset A: weight 30%, return 10% Asset B: weight 40%, return 15% Asset C: weight 30%, return 18% Portfolio return (.3x10)+(.4x15)+(.3x18)= 14.4%

13. Real Estate Investment Performance Portfolio risk Standard deviation Not a weighted average There is interaction between returns of assets Covariance Absolute measure of how two data series (such as asset returns) move together over time

14. Real Estate Investment Performance Correlation Relative measure of movement Range of +1 to -1 For example, as the correlation approaches +1, two series are said to move very closely together. The converse is also true.

15. Real Estate Investment Performance Portfolio weighting Efficient frontier Maximum return for a given risk level Diversification & real estate Historical evidence NCREIF Index & appraisal smoothing Traded REITs & public markets risk

16. Exhibit 22-10NCREIF versus NAREIT (REITs) Quarterly Returns, 1985-2009

17. Real Estate Investment Performance Diversification Property Type & Location Global diversification Evolution of global REIT structures CMBS markets International Indices Socially responsible property investing

18. Exhibit 22-11NCREIF Returns by Property Type, Four Quarter Rolling Total

19. Exhibit 22-12NCREIF Returns by Selected MSA, Four Quarter Rolling Total

20. Real Estate Investment Performance Diversification & global cities Risks of global investment Currency risk Incomplete information Different tax laws & property rights Political risk Communication & culture differences

21. Exhibit 22-14Largest Commercial Real Estate Markets

22. Exhibit 22-15GDP Growth Rates for Different Global Cities

23. Real Estate Investment Performance Derivatives Derivatives allow investors to take a position in real estate without actually buying or selling properties. Long & short positions Overexposure & underexposure to property types