Fresno County Employees’ Retirement Association Private vs. Public Real Estate Investing January 4, 2005 SEATTLE 999 Third Avenue Suite 3650 Seattle, Washington 98104 206.622.3700 telephone 206.622.0548 facsimile LOS ANGELES 2321 Rosecrans Avenue Suite 2250 El Segundo, California 90245 310.297.1777 telephone 310.297.0878 facsimile Jeffrey MacLean President www.wurts.com
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Fresno County Employees’ Retirement Association Private vs. Public Real Estate Investing January 4, 2005 SEATTLE 999 Third Avenue Suite 3650 Seattle, Washington.
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Fresno County Employees’ Retirement AssociationPrivate vs. Public Real Estate InvestingJanuary 4, 2005
SEATTLE999 Third AvenueSuite 3650Seattle, Washington 98104206.622.3700 telephone
206.622.0548 facsimile
LOS ANGELES2321 Rosecrans AvenueSuite 2250El Segundo, California 90245310.297.1777 telephone310.297.0878 facsimile
Jeffrey MacLeanPresident
www.wurts.com
PAGE 2WURTS & ASSOCIATES
Contents
Private vs. Public Real Estate Investing:
Why Real Estate?
Types of Real Estate Investments: Public – Real Estate Investment Trust Private – Commingled Funds/Limited Partnerships/Separate Accounts Public or private?
Private vs. Public Real Estate
Developing a Real Estate Strategy
PAGE 3WURTS & ASSOCIATES
Why Real Estate?
Real estate makes up approximately 20% of domestically invested assets $5.6 trillion in value (U.S. commercial real estate) as of 9/30/05 Can be accessed through a range of available investment approaches
Low correlation to stocks and bonds leads to higher diversification benefits
Historically proven to be a good hedge against inflation Construction costs typically rise in an inflationary environment Rental income increases with inflation
High current income A large portion of real estate returns is the stable income component
Source: JP Morgan Asset Management
PAGE 4WURTS & ASSOCIATES
Types of Real Estate Investments
In general, there are two types of real estate markets:
I. Public real estate market Real Estate Investment Trusts (REITs) Real Estate Operating Companies (REOCs)
II. Private real estate market Direct Separate Accounts, Joint Ventures/Partnerships Commingled Funds Operating Companies
PAGE 5WURTS & ASSOCIATES
Types of Real Estate Investments
Risk
Return Opportunistic – Total Return (20% or higher)
Value Added – Total Return (12% - 16%)
Publicly-Traded REIT – Total Return (9%-11%)
Core – Total Return (7% - 9%)
Real estate investment portfolios can be categorized in four different styles which varies in leverage usage and return objectives:
Greater liquidity – Trade on a major exchange on a daily basis
Daily pricing – Priced or valuation varies as investor sentiments are tied into REIT prices
Transparency – Has to be transparent in order to qualify as a REIT
Drawbacks
Higher volatility – Due to greater liquidity, other factors besides underlying fundamentals tend to influence returns
Higher correlation – Higher correlation to major asset classes than private real estate
Most common public real estate investment vehicle is the Real Estate Investment Trusts (REITs).
REIT is a special type of company created securities which allow investors to participate in the commercial property markets through readily traded shares of a public company.
Simply, REITs can be viewed as shares of companies in the real estate business.
PAGE 7WURTS & ASSOCIATES
Public Real Estate Real Estate Investment Trusts
Publicly traded
Required to distribute 90% of income as dividends
Ownership must include 100 shareholders or more (with a prohibition against five or fewer shareholders owning 50% or more of the shares)
Required to have 75% of assets in real estate investments
Required to earn 75% of income from real estate investments
Must hire independent real estate professionals to execute certain management activities
Risk/return profile similar to that of a small cap value equity investment
PAGE 8WURTS & ASSOCIATES
Public Real Estate Real Estate Operating Companies
REOCs are similar to REITs but have fewer restrictions:
Do not have to pay specific level of income as dividends – can be reinvest like a corporation
Do not share the same tax advantage as REITs
No minimum on the number of owners and no restriction on ownership concentration
Can invest in any real estate assets of its choosing
Income may be derived from any investment combinations
Do not need to hire outside management
PAGE 9WURTS & ASSOCIATES
Private Real EstateCommingled Funds/Limited Partnerships/Separate Accounts
Advantages Low volatility – Less frequent valuation; prices are more inline with the
value of the underlying real estate assets Lower correlation with stocks and bonds – Returns are less driven by
investors’ sentiments
Drawbacks Less transparency – Less required disclosure Infrequently priced – Valued once a month or once a quarter Limited liquidity (some restrictions on redemptions - generally quarterly)
Private real estate assets typically trade through individually negotiated transactions.
Institutions may make use of separate accounts or commingled funds to participate in this form of real estate investing.
PAGE 10WURTS & ASSOCIATES
Public vs. Private Real Estate: Historical Performance
0%
5%
10%
15%
20%
25%
30%
35%
3 Months* 1 Year 3 Year 5 Year 10 Year 15 Year 20 Year
NCREIF Property NAREIT-All
Data as of 6/30/05Source: Ibbotson* Not annualized
NAREIT Index (benchmark for REITs) has outperformed the NCREIF Property Index (benchmark for private real estate investments) over the short run and the long run.
Over the 20 year period, NAREIT Index returned 10.2% (with leverage) while NCRIEF Property Index returned 7.8% (without leverage).
Cumulative Annualized Return
PAGE 11WURTS & ASSOCIATES
Public vs. Private Real Estate: Volatility In Returns
Source: IbbotsonNAREIT Index started in 1972 and the NCREIF Index started in 1978
Annual Consecutive Returns
-30%
-20%
-10%
0%
10%
20%
30%
40%
50%
78 80 82 84 86 88 90 92 94 96 98 00 02 04
NCREIF NAREIT
Since REITs trade publicly on a daily basis, the returns are more volatile.
REIT returns are influenced by investor sentiment as well as the value of the underlying real estate investments.
PAGE 12WURTS & ASSOCIATES
Public vs. Private Real Estate: Rolling Average
-10%-5%
0%5%
10%
15%20%25%
30%35%
80 82 84 86 88 90 92 94 96 98 00 02 04
NAREIT NCREIF
12 Quarter Rolling Average1/1978 – 6/2005
Source: Ibbotson
On a rolling 12 quarter basis, REITs and private real estate investments have traded leadership.
PAGE 13WURTS & ASSOCIATES
Public vs. Private Real Estate: Leverage
Use of Leverage: Core Private - below 50% REIT - 50% on average Value Added - 50%-60% Opportunistic - 60%-80%
Benchmark Comparison: The NAREIT Index returns include historical levels of REIT
leverage whereas NCREIF Property Index returns are reported on an unleveraged basis
The effects of leverage has enhanced the returns of the NAREIT Index especially in more recent times
Source: Bloomberg, RREEF
PAGE 14WURTS & ASSOCIATES
Public vs. Private Real Estate: Dividend/Income Yields
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%
95 96 97 98 99 00 01 02 03 04
Dividend
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
78 80 82 84 86 88 90 92 94 96 98 00 02 04
Income
NAREIT All Index Dividend Yield NCREIF Property Index Income Yield
Current yields on REITs have decreased significantly, falling from 8.99% in 1999 to 5.02%.
Private real estate yields have decreased more moderately, falling from 2.23% in 1997 to 1.61%.
Source: Bloomberg, RREEFAs of 9/30/05
PAGE 15WURTS & ASSOCIATES
Public vs. Private Real Estate: Return vs. Risk
NCREIFLB AGG
NAREITS&P 500
0%
2%
4%
6%
8%
10%
12%
14%
0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 20%
NCREIF NAREIT LB AGG S&P 500
Annualized Return/Risk1/1978-6/2005
Source: IbbotsonNAREIT Index started in 1972 and the NCREIF Index started in 1978
Historically private real estate investments have behaved more like fixed income while REITs are more similar to equities
PAGE 16WURTS & ASSOCIATES
Public vs. Private Real Estate: Historical Correlation