REAL ESTATE ALLOCATION IN MIXED-ASSET PORTFOLIOS

Abstract

Past studies on the role of real estate in a mixed-assets portfolio typically concerned with the proportion of real estate to be allocated in a portfolio. In this study, however, other than analyzing the risk and return characteristics of real estate and its correlation with financial assets, attempts were also made to find out the minimum threshold return that justify a designated proportion of wealth allocation to real estate at a given level of risk by using the mean-variance framework. After analyzing data of the Singapore market from 1991 to 2004, it was found that when the proportion of wealth allocated to real estate increases, the threshold return also increases. In other words, for real estate to merit a higher share in a portfolio, expected returns obviously must increase. But the increases are not large and the rate of increase decelerates when the proportion increases. In order for real estate to be allocated by a share of 5% to 20% of a mixed-assets portfolio, a minimum quarterly threshold return of 0.59% to 0.77% has to be achieved. Using annual data, the threshold return is between 2.38% and 2.98%. Over the entire research period, only residential property market obtained a mean return that is above the minimum threshold return if real estate was allocated by a share between 5% and 20% of a portfolio. The threshold return of real estate varies under different market conditions and the mean return of real estate was well above the required threshold return during the rising property market periods, but failed to meet the requirement when the property market was in recession.