The decision on whether to invest in core real estate through a fund or direct ownership rests on a number of different considerations. Unlike fund investments, direct ownership offers insurers the ability to craft portfolio strategy, maintain operational control of assets, direct additional capital investment, and make acquisition and disposition decisions. The size of individual core real estate assets can, however, make it difficult to construct a diversified portfolio within the direct ownership without a significant allocation.
By contrast, investments in comingled funds cede the decision-making authority in these areas to fund managers. In return, funds offer a host of potential benefits. Fund structures often provide insurers with access to a greater diversification of assets, strategies, and markets at smaller investment sizes.
The largest set of private core real estate funds are benchmarked through the NCREIF Open End Diversified Core Equity (“ODCE”) fund index. As of the second quarter of 2021, the index was comprised of $280 billion in assets, with an average asset market value of $89 million.9 While many core assets can be acquired for lower amounts, this figure illustrates the limits to which even relatively large allocations can be used to construct diversified portfolios.
In addition to diversifying across property types and markets, funds often enjoy a greater flexibility in the use of leverage and modest exposure to non-core investments.
Conclusion Core real estate equity offers insurers a multitude of potential benefits. Through economic cycles, the sector has historically produced attractive absolute and risk-adjusted returns while acting as a strong diversifier in multi-asset class portfolios. Commercial real estate has also demonstrated an ability to withstand short-term economic shocks and recover long-term value. Lastly, we believe that insurers’ historically low allocations to the sector could modestly increase as a result of lower Risk Based Capital charges.
However, real estate remains a relationship driven asset class where local knowledge can be as essential as analysis of macro trends. We believe that all of these challenges can be met in strategic partnership with an experienced advisor attuned to the goals and needs specific to insurance companies. We believe that those insurers that choose to make an allocation to the sector may soon recognize its potential benefits and join the many other insurers that have long been counted among commercial real estate’s largest and most important investors.
Endnotes 1 National Council of Real Estate Investment Fiduciaries. The figure shown represents unlevered returns for operating assets in the NFI-ODCE Index from 1Q2000 – 4Q2020.2 The indices used for each asset class are: Commercial Mortgages, Giliberto-Levy Commercial Mortgage Performance Index; Government Bonds, Barclays U.S. Treasury Index; Corporate Bonds, Barclays U.S. Investment Grade Corporate Credit Index; Core Equity Real Estate, NCREIF Property Index (NPI); Stocks, S&P 500 Total Return Index; Commercial Mortgage-Backed Securities, Barclays Capital U.S. Investment-Grade CMBS Index, Private Equity, Cambridge Associates LLC U.S. Private Equity Index; Hedge Funds, HFRI Hedge Fund Index; International Stocks, MSCI EAFE Index. Data is from 2000Q1-2021Q1.3 Ibid4 Modeled returns also include a small fixed adjustment (10bps) that accounts for modest asset deterioration with age. Data is based on NCREIF Total Rate of Return and capitalization rate data, as well as Moody’s CPI-U. This model is hypothetical and does not reflect actual investment results. Actual results might differ from modeled results. Hypothetical results are calculated in hindsight, invariably show positive performance, and are subject to various modeling assumptions, statistical variances and interpretational differences. No representations are made as to the reasonableness of the assumptions used and any change in these assumptions would have a material impact on the hypothetical performance results portrayed. Hypothetical results have other limitations including: they do not reflect actual trading and therefore reflect the impact that actual market conditions may have had on the investment manager’s decision making process; regulatory or tax rules that may have existed during the periods modeled; and it also does not take into account an investor’s ability to withstand losses in a down market and assumes the strategy was continuously invested throughout the periods modeled. There is no guarantee that any actual product or strategy that followed any of the hypothetical portfolios modeled herein would have had similar performance. A decision to invest in an investment strategy should not be based off of hypothetical or simulated performance results.5 Neither MetLife Investment Management nor any of its employees provide tax or legal advice and all investors should consult with their own tax or legal professionals to evaluate their individual circumstances.6 Assumes a year one stabilized cap rate of 4.0%, improvement value equal to 70% of purchase price, a standard corporate tax rate of 21%, no capital expenditures in the first year, and a depreciable life of 27.5 years calculated on a straight-line basis. The corporate tax rate could change as the result of new tax legislation, which could also change the value of the hypothetical depreciation benefits.7 Bloomberg Barclays, NAIC, MetLife Investment Management, Real estate equity represents a blend of strategy/structure (core/opportunistic and joint venture/wholly-owned). The RBC adjusted yield for Real Estate Equity assumes a 400% RBC ratio, 10% ROI, 3.37% before tax interest on capital, 21% tax rate, 9% levered real estate yield, and a 13% RBC rate.8 Blackrock, JP Morgan, S&P Global9 National Council of Real Estate Investment Fiduciaries.
Disclosure This material is intended solely for Institutional Investors, Qualified Investors and Professional Investors. This analysis is not intended for distribution with Retail Investors.
This document has been prepared by MetLife Investment Management (“MIM”)1 solely for informational purposes and does not constitute a recommendation regarding any investments or the provision of any investment advice, or constitute or form part of any advertisement of, offer for sale or subscription of, solicitation or invitation of any offer or recommendation to purchase or subscribe for any securities or investment advisory services. The views expressed herein are solely those of MIM and do not necessarily reflect, nor are they necessarily consistent with, the views held by, or the forecasts utilized by, the entities within the MetLife enterprise that provide insurance products, annuities and employee benefit programs. The information and opinions presented or contained in this document are provided as the date it was written. It should be understood that subsequent developments may materially affect the information contained in this document, which none of MIM, its affiliates, advisors or representatives are under an obligation to update, revise or affirm. It is not MIM’s intention to provide, and you may not rely on this document as providing, a recommendation with respect to any particular investment strategy or investment. Affiliates of MIM may perform services for, solicit business from, hold long or short positions in, or otherwise be interested in the investments (including derivatives) of any company mentioned herein. This document may contain forward-looking statements, as well as predictions, projections and forecasts of the economy or economic trends of the markets, which are not necessarily indicative of the future. Any or all forward-looking statements, as well as those included in any other material discussed at the presentation, may turn out to be wrong.
All investments involve risks including the potential for loss of principle and past performance does not guarantee similar future results. Property is a specialist sector that may be less liquid and produce more volatile performance than an investment in other investment sectors. The value of capital and income will fluctuate as property values and rental income rise and fall. The valuation of property is generally a matter of the valuers’ opinion rather than fact. The amount raised when a property is sold may be less than the valuation. Furthermore, certain investments in mortgages, real estate or non-publicly traded securities and private debt instruments have a limited number of potential purchasers and sellers. This factor may have the effect of limiting the availability of these investments for purchase and may also limit the ability to sell such investments at their fair market value in response to changes in the economy or the financial markets.
In the U.S. this document is communicated by MetLife Investment Management, LLC (MIM, LLC), a U.S. Securities Exchange Commission registered investment adviser. MIM, LLC is a subsidiary of MetLife, Inc. and part of MetLife Investment Management. Registration with the SEC does not imply a certain level of skill or that the SEC has endorsed the investment advisor.
This document is being distributed by MetLife Investment Management Limited (“MIML”), authorised and regulated by the UK Financial Conduct Authority (FCA reference number 623761), registered address Level 34 One Canada Square London E14 5AA United Kingdom. This document is only intended for, and may only be distributed to, investors in the EEA who qualify as a Professional Client as defined under the EEA’s Markets in Financial Instruments Directive, as implemented in the relevant EEA jurisdiction. The investment strategy described herein is intended to be structured as an investment management agreement between MIML (or its affiliates, as the case may be) and a client, although alternative structures more suitable for a particular client can be discussed.
For investors in the Middle East: This document is directed at and intended for institutional investors (as such term is defined in the various jurisdictions) only. The recipient of this document acknowledges that (1) no regulator or governmental authority in the Gulf Cooperation Council (“GCC”) or the Middle East has reviewed or approved this document or the substance contained within it, (2) this document is not for general circulation in the GCC or the