Abstract
Executive Summary. Our analysis of long-term trends points to the outperformance of listed REIT stocks and private equity real estate opportunistic funds compared to more traditional asset. To explain these results, we appeal to Merton (1973) and Fama's (1996) multifactor mean-variance efficient portfolio theory, where the asset weights for these portfolios are those that produce the market portfolio and an extra multifactor-efficient portfolio that performs well in a low equilibrium rate environment. Researchers have found that private and listed real estate performs well as a diversifier in a stock and bond portfolio. However, mean-variance portfolio theory does not provide a unified account of the outperformance of private and listed real estate over the past two and a half decades. A multifactor-minimum variance model is necessary, which introduces the issue of hedging and of tailoring portfolios to mitigate potential vulnerability to a low equilibrium rate environment. We find that investors should add a mimicking portfolio to mitigate their potential vulnerability to a low equilibrium rate environment, and that this portfolio should consist primarily of private and listed real estate.
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