Financial Services

The ascent of real assets

January 16, 2015

North America

January 16, 2015

North America
Janie Hulse

Senior editor

Janie Hulse is a senior editor with The Economist Intelligence Unit's Thought Leadership team. Before joining the EIU, Janie worked with The Economist Group and other organizations as a freelance correspondent and consultant based in Buenos Aires, Argentina. She has also held managerial roles in the areas of marketing and research with US global companies and within US Government agencies. She holds a master's degree in economic development from the London School of Economics and a bachelor's in industrial relations from Cornell University.

Gauging growth and goals in institutional portfolios

Real assets --primarily real estate, infrastructure and commodities --are an increasing focus of the world’s institutional investors, according to a global survey of 201 organizations conducted by The EIU. The trend is part of a broader move into alternative investments by institutions that are seeking to lessen their reliance on traditional stocks and bonds amid the challenging conditions of the post-crisis years.

Against a backdrop of ultra-low interest rates, sluggish growth and ongoing uncertainty, nearly half of these investors have increased their allocations to at least one real asset category in the last three years, and more than half expect to increase in one or more categories within the next 18 months. They cite two main drivers for their greater investment: a desire to increase returns and their view of the macroeconomic environment. Many are also motivated by a need for income. Other objectives commonly associated with real assets --notably, diversification and protection against possible inflation --are cited as well, but rank lower.

Investors are using a variety of vehicles and strategies to get exposure to real assets, a diverse category that also includes timber and farmland. Nearly all respondents (95%) invest in real estate, which has long played a role in institutional portfolios. Infrastructure, the newest and fastest-growing area, is owned by 65% of the respondents. Just under one-third of the respondents (29%) invest in commodities.

The median allocation to real assets was 11% of the total portfolio, a percentage that will rise further if the respondents maintain their current course. Overall, the survey results signal the continued evolution of real assets as building blocks in institutional portfolios, with many organizations adding staff to support such effort. However, there is an important caveat resulting from the same unusual financial conditions that have been a tailwind for this asset class: A majority of respondents say that a significant rise in interest rates would cause them to rethink some of their allocations to real assets.

The key findings from the research are as follows:

  • Real assets have a significant and growing presence in institutional portfolios. Close to half (46%) of the institutions surveyed have increased allocations in at least one category in the last three years. In the next 18 months, 60% will increase in at least one category. Looking within categories, 49% of infrastructure investors, 48% of real estate investors and 46% of commodities investors expect to increase in the next year and a half.
  • The need to increase returns is a --if not the-- major motivation for adding to real-asset allocations. In real estate, 63% of investors planning to grow allocations rank ‘increasing returns’ among the three most important factors in their decision. The same percentage cite macro-environment considerations, while 38% say a need for income is a major factor. In infrastructure, 49% of those planning to increase allocations indicate a desire for returns, with 55% citing the macro environment and 43% referencing a need for income. For those that plan on increasing allocations in commodities, 70% give returns as a reason.
  • Low interest rates are a tailwind for investment in real assets; a spike in rates could be a headwind. Nearly half (47%) of survey respondents say low interest rates influence their investments in real assets. Almost two-thirds (62%) say they would rethink some of their allocations to real assets if a ‘significant’ rise in interest rates were to occur. In some sub-sectors, concerns about lofty valuations are influencing investment choices. Many institutions have real-asset teams, and they expect to add staff to them. Nearly one-third (32%) of respondents have a real-assets team, sometimes working within a larger alternatives team. A similar number (30%) plan to increase the number of employees dedicated to real assets in the next 18 months. Of those without a dedicated real-assets team, 14% indicate that they will put one in place in the next 18 months. Nearly all respondents (96%) have staff dedicated to specific real-asset strategies.
  • In real estate, core equity strategies draw the most interest, but value-added equity and opportunistic equity also have appeal. More than half (59%) of investors increasing allocations to real estate are either somewhat or very interested in core strategies, which are the most conservative and income-oriented. Nearly half of those increasing allocations (47%) express interest in value-added equity, with 34% expressing interest in opportunistic equity strategies --the highest-risk/highest-return investments.
  • Most real estate investors have some non-domestic exposure; a significant minority show strong geographic diversification. Close to half (44%) of real estate investors currently have between 1% and 10% of their portfolios invested outside their domestic markets, compared with 22% that have more than one-quarter of their portfolio invested outside their home countries.
  • In infrastructure, equity investments and brownfield projects are preferred. Among infrastructure investors expecting to increase allocations, 75% expect to increase equity exposures and 38% expect to increase debt. Existing (brownfield) projects are preferred: In developed markets, 51% of those expecting to increase allocations are at least somewhat interested in brownfield projects vs 23% that are interested in new (greenfield) projects.
  • Infrastructure investors express noteworthy interest in emerging-market opportunities. Investors planning to increase infrastructure allocations find emerging markets almost as attractive as developed ones. Nearly half (45%) are at least somewhat interested in emerging-market brownfield investments, with 23% interested in emerging-market greenfield opportunitie--the same percentage interested in new developed-market projects.

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