Including listed property in a multi-asset portfolio enhances returns and reduces volatility, Ndabezinhle Mkhize, the acting chief investment officer of the Eskom Pension and Provident Fund, told the 13th annual IPD South Africa Property Investment Conference, which was held in Cape Town recently.
The reason for constructing a multi-asset portfolio is to diversify your investments, and diversification is based on combining different asset classes that have little or no correlation to each other in terms of risk (volatility) and returns, Mkhize said.
However, investors should not expect too much from diversification; it will not protect your investments from systemic risk, such as the financial crisis of 2008, Mkhize said.
He said some asset managers and institutional investors in South Africa have argued that it is unnecessary to include property in a balanced (multi-asset) portfolio, because real estate investment trusts (reits) invest heavily in shopping centres and because property has a fairly high correlation with bond yields. Therefore, it is argued that buying shares in retailers and investing in government bonds will produce the same returns as investing in property.
But a comparison of returns over the past five years and longer shows that property has distinct performance drivers that cannot be replicated by investing in retailers and bonds, Mkhize said. He cited the example of Pick n Pay, which, even when its profits fell, paid rentals that were increasing by at least six percent a year and continued to sign leases in new shopping centres, because it could not afford to concede the space to its competitors.
The property sector in South Africa has not produced a negative total return in any year since 1995, Mkhize said.
If the yield on the government long-term bond rises from its current level of eight percent to about 9.25 percent on the back of expected higher interest rates, the price of listed property will fall. In this scenario, only local and international equities will out-perform South African listed property over the next 10 years, but listed property will still out-perform bonds, he said.
The big advantage of property over bonds is a sustainable income stream from rentals that grows above inflation.
The value of including listed property in a multi-asset portfolio is that, in South Africa, the sector has a very low correlation with equities and its correlation with bonds is not exact, Mkhize said.
Research shows that blending property into a portfolio of 60-percent equities, 30-percent bonds and 10-percent cash enhanced the returns over one-, three-, five-, 10- and 15-year periods between 2000 and 2015. Similarly, adding property reduced volatility in the portfolio over all periods, except over the past year, because the sector has experienced high levels of volatility.