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Public vs. Private Real Estate Investments: Risk and Return

November 03, 2016

The S&P Dow Jones Indices and MSCI Inc. announced the creation of a new real estate sector, formerly included in the financial sector, within the GICS system which became effective August 31, 2016. The new real estate sector marks the 11th GICS sector and the first time a new sector has been added to the GICS classification since its inception in 1999. The creation of a separate real estate sector recognizes the growth in both size and complexity of the asset class. Real estate, which began as two sub-sectors, has grown over time to now contain a total of 13 sub-sectors.

These sub-sectors are an area of differentiation when it comes to public REITs vs. private real estate investments.1 Private real estate investments typically fall into one of four main sub-sectors: industrial, retail, office, and multifamily. REITs, on the other hand, often carry significant exposures to “alternative” real estate which includes sub-sectors such as self-storage, hotel, and healthcare. Additionally, the risk and return profiles of the same sub-sectors between public (REITs) and private real estate can vary significantly — particularly from a risk perspective, as measured by standard deviation. The chart above not only shows the annual returns of each REIT sector — note the dispersion of returns between sectors each year as well as the annual volatility of each sub-sector — but the level of standard deviation over the nine years of sub-sector returns in the table. Critically, the private real estate risk (industrial: 6.3%; retail: 5.1%; office: 6.8%; multifamily: 6.6%) is materially lower than the equivalent sub-sectors from REITs (respectively: 44%, 31%, 28%, and 26% (residential)). So while both public and private real estate investments may appear to invest in similar assets, their respective risk profiles can vary significantly.

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1Private real estate is measured by the NCREIF Property Index (“NPI”), a composite of real estate investment performance from a very large pool of individual commercial real estate properties acquired in the private market for investment purposes only.

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