Real estate investors are pouring into property assets around the world but do not properly understand the risks of doing so, according to new research

February 11, 2014 3:05 pm

Investors warned over real estate risks

By Kate Allen

Real estate investors are pouring into property assets around the world but do not properly understand the risks of doing so, according to new research.

Investors in North America, Europe, Asia and Australia do not have sufficiently strongrisk management procedures and have not integrated their real estate teams into their wider asset allocation systems, the report by property data specialists IPD/MSCI found.

Investors do not appreciate the complexity of real estate as an asset class or the limitations of available performance benchmarking data, while many of those who do attempt to measure the performance of theirproperty investments are using the wrong benchmarking comparisons, according to the report.

In particular, many investors do not fully understand the diversity of real estate assets and the changing nature of risk in the sector through the property cycle.

Peter Hobbs, IPD managing director, said: “The risk people don’t understand real estate and the real estate people don’t understand quantitative [risk] models. At the multi-asset level, real estate needs to be linked up on a par with other asset classes.”

The problem is escalating as real estate becomes increasingly popular among investors searching for higher yields than bonds and less volatility than equities. “Money is pouring in, [investors] are allocating more of their portfolio to real estate, and [risk] is becoming a big issue,” Mr Hobbs said.

The demand for property assets is pushing investors into riskier behaviour, he added – particularly by putting money into development because of a shortage of already-built assets to buy.

Roger Urwin, global head of investment content at risk management consultancy Towers Watson, said: “The investment world has begun to take up investment into real estate, but hasn’t yet got the governance processes in place to do it well. At the board level there isn’t sufficient clarity about real estate assets’ contribution to the overall risk mix.”

The investment world has begun to take up investment into real estate, but hasn’t yet got the governance processes in place to do it well

– Roger Urwin, Towers Watson

Two groups of investors in particular are running greater risks than they realise, Mr Hobbs said. The first are new entrants to the property market from Asia and the Middle East who are eager to spend and do not have a sufficiently sophisticated understanding of property markets around the world.

The second group of investors at risk are large, sophisticated companies that believe they are correctly assessing risk but are using the wrong models and comparisons to do so, Mr Hobbs said. In particular, US-based investors are using domestically focused benchmarking data to assess their performance, despite a substantial proportion of their investments now being overseas. Canadian and Nordic investors are making the same mistake, the report found.

In total about 80 per cent of those surveyed by IPD/MSCI are using misaligned benchmarks.