OPTIMAL GLOBAL REAL ESTATE PORTFOLIO - A PRACTICAL APPROACH

Modern Portfolio Theory has become the standard tool to construct and analyse equity portfolios. Applications to alternative asset classes, in particular private real estate, are much less wide spread and have mostly an academic character. The main hurdles faced by researchers and practitioners are the availability of sufficient data history and adequate capturing of specific properties of real estate investments, especially their illiquidity and the lack of transparency. In this paper, we develop an approach to constructing an optimal global real estate portfolio that takes into account the existing practical limitations. The analysis is conducted in several steps: In the first one, a neutral global portfolio based on invested real estate stock is defined. The second step involves formulating constraints that allow for investor specific requirements regarding liquidity, transparency, country risk, and a number of other criteria. In the third step, optimisation is conducted to arrive to an optimal long term portfolio defined in terms of target allocation ranges. Within these ranges, short term tactical adjustments can be applied depending on the current market outlook. The approach constitutes a trade-off between a rigorous methodical portfolio optimization and a practicable method to arrive to a global real estate strategy.