REAL ESTATE PORTFOLIO MANAGEMENT

Real Estate Portfolio Management

Real Estate Portfolio Management

Introduction

This paper presents several tools for real estate investment that attempt to meet decisionmakers' requirements: target market certification, diversification hurdle rates, and budgeting to beat the market. Economists have the tools that can build useful models to refine decisionmakers' judgment. Far from being impractical, models can add value to organisations. To increase the utility of their models, economists should ensure that their recommendations are concise and flexible. By combining output from several tools, economists can increase the accuracy of their recommendations (Mike, 2002). This paper presents a series of useful models and tools for an industry that prides itself on "insider information" and local market knowledge in the selection of one investment at a time. The emphasis in this paper is on the construction and monitoring of portfolios of real estate investments (Jun, 2003).

The general principles in this paper are applicable to business economists in any industry. The specific applications have relevance to institutional investors (e.g., life insurance companies, commercial banks, thrifts, credit companies, pension funds, publicly held real estate investment trusts and real estate operating companies, private real estate investment trusts, mortgage conduits and mortgage backed securities, and both public and private real estate syndications) as well as regulatory agencies (Stephen, 2002).

Useful Models

Sergeant Friday had it wrong: "just the facts" are not enough. Decisionmakers need useful models to give meaning to the maze of facts that would be otherwise confusing and useless and to put facts into a more usable, practical form. Unfortunately, the necessarily abstract nature of economic models often prompts some to conclude incorrectly that models are impractical and unrealistic, divorced from the facts and realities of the world. As G.E.E Box once said, "all models are wrong, but some are useful." Models are useful in part because the are abstract, but they should do more.

Decisionmakers want advice from economists that is useful, prudent, concise, and flexible. First and foremost, decisionmakers want useful advice. To be useful, that advice can guide strategy and/or tactics, refine the decisionmakers' thinking or understanding, and/or solve problems. Managers will often say, "I knew that would happen, but I didn't know the impact would be that big (Geoffery, 2006)." In this sense, models can refine managers' judgment. Second, decisionmakers want accurate advice, or at least prudent advice. To enhance the advice's usefulness, it should be concise. Finally, the advice should be flexible and allow decisionmakers to calculate the cost and benefits of following their intuition if it differs from the economist's advice by incorporating uncertainty into the analysis (David, 2004).

The Real Estate Investment Environment

Unlike their colleagues in the stock and bond markets, institutional real estate investors have been slow to adopt the techniques of Modern Portfolio Theory (MPT). MPT embodies techniques for reducing risk in an investment portfolio by constructing portfolios along a frontier that optimises the return per unit of risk (Scott, 2005).

This slow adoption is largely the result of the nature of the real estate ...