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Private Real Estate Can Offer Powerful Portfolio Benefits

October 2, 2020

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PRIVATE VS. PUBLIC REAL ESTATE: Two Different Types of Investment Structures


Institutional investors have historically benefited by investing in privately owned (private) commercial real estate. Compared to publicly traded real estate, these benefits may include superior income returns, diversification and strong overall risk-adjusted returns (returns with less volatility). Owning private commercial real estate means investing in individual properties or through a pooled investment vehicle that is open to individual investors but is not listed on a stock exchange. Since private real estate is not publicly traded, it is not subject to the stock market volatility responsible for much of the fluctuation in the share prices of publicly owned (public) real estate.1 Private real estate investments do not provide the ready liquidity of public real estate.

In recent years, new investor-friendly structures with greater transparency and enhanced liquidity features have made an investment in private real estate more accessible to individual investors. Compared to a portfolio that included only public real estate, a portfolio inclusive of private real estate has historically generated better risk-adjusted returns — returns relative to the riskiness of the investment — in addition to adding the potential for income and diversification.2

While NAV REITs may offer more liquidity options than more traditional, non-traded REITs, there are typically restrictions and limitations on overall liquidity. Private real estate may have significant fees and tax consequences.

The NCREIF Open-End Diversified Core (ODCE) Index, an equal weighted, time weighted index representing a blended portfolio of institutional-quality real estate funds reported net of management and advisory fees (with the exception of the private real estate income data shown in the income return table below, which is reported gross of management and advisory fees) is a commonly used measure of private real estate, and is the index used in this report to represent private real estate. While funds used in this index have characteristics that differ from net asset value real estate investment trusts (NAV REITs), which include differing management fees, Black Creek Group’s management feels this index is an appropriate and accepted index for the purpose of evaluating returns on investments in NAV REITs.

It is important to note that while private real estate is generally less volatile than public REITs, the value of these investments will fluctuate, and the value of real estate often lags behind general market conditions.

 

THE BENEFITS OF PRIVATE REAL ESTATE3


Over the past 20 years, the income return of private real estate has exceeded the income return of public real estate.2 Private real estate’s 5.9% income return represents more than 70% of its total return, an attractive feature to investors who are seeking an opportunity for a balanced mix of growth and income.2

Past performance is no guarantee of future results. Current market uncertainty can exaggerate the volatility and risk of any investment, including real estate. Income return is the portion of a fund’s total return that was derived from income distributions. Income returns for this time period may include return of capital.


More Effective Portfolio Diversifier Correlations

Public real estate returns have correlated with stock market returns more closely over time than private real estate returns, potentially making private real estate a more effective portfolio diversifier. Public real estate returns were correlated to S&P 500 returns 70% to 76% over the last two decades.2 Meanwhile, private real estate’s correlation to the S&P 500 returns fell from 10% between 2000 and 2009 to -3% from 2010 to 2019, underscoring the diversification opportunity of investing in private real estate vs. public real estate.2

 

 

Better Risk-Adjusted Returns Correlations

Thanks in part to private real estate’s lower volatility, it has also produced stronger risk-adjusted returns — as defined by a higher Sharpe ratio — than public real estate over the past 20 years.1,4 A Sharpe ratio is one of the standard tools financial professionals use to compare investments. A Sharpe ratio represents the risk premium an asset generates relative to the volatility of its returns, where a higher figure indicates a better return relative to the riskiness of the investment. In the past 20 years, private real estate has generated risk-adjusted returns that are nearly two times better than public real estate returns.

 

 

PRIVATE REAL ESTATE: A Key Component of a Well-Diversified Portfolio

Individual investors are increasingly discovering there are diversification benefits to adding private real estate to their portfolios. Given private real estate’s historical income returns, diversification, and strong overall risk-adjusted returns, we believe it may have a place alongside stocks, bonds and public real estate in a diversified investment portfolio. New investment products with investor-friendly shareholder structures and liquidity features have opened opportunities for individuals to invest in private real estate, providing access to its potential benefits with modest minimum investment requirements.5

 

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