401(k) Specialist Issue 2 - 2016 - 23

DCREC by Laurie M. Tillinghast
The Role Real Estate Can Play in Defined
Contribution Plans
THERE HAS BEEN a growing consensus
in the retirement industry that including
alternative or non-traditional investment
options, such as real estate, in investment
menus of defined contribution plans can
be beneficial. Specifically, it can act to
reduce the concentration of equity and
bond risk in target date and target risktype
investment funds.
The Defined Contribution Real Estate
Council recently conducted a survey of
plan sponsors, retirement consultants and
target date fund managers that collectively
represent more than $14 trillion
in assets under management or advisement.
It found that DC retirement plan
decision-makers expect to see continued
growth in the adoption of alternative
investments. Real estate was viewed as
the most easily understood and transparent
of all the non-traditional strategies
that might be included in a diversified
defined-contribution portfolio.
It's now slowly moving to the marketplace,
as more plan sponsors and consultants
are embracing custom portfolios
and white-label, institutional investment
products over off-the-shelf mutual funds. In
the last five years, new investment options
have entered the market with daily valuation
and other DC-operational features. At
the same time, more real estate options are
becoming available to plan participants
as a component of target date funds, as
well as custom real-asset and diversified
inflation-protection strategies.
With this as a backdrop, The Defined
Contribution Real Estate Council was established
in 2012 with a mission to educate
and promote investment in direct real
estate and real estate securities, including
REITs, in DC retirement plans.
A separate research study commissioned
by DCREC and published by professors
Michael Drew and Adam Walk from the Griffith Business School at Griffith University in Brisbane,
Australia, found that when DC portfolios made an allocation of as little as 10 percent
to a mix of listed and unlisted real estate, their risk-adjusted returns could be enhanced.
Similarly, the likelihood of improving the probability of achieving desired retirement
wealth was greater with real estate than without. These results draw on our existing understanding
that real estate has different return cycles from traditional stocks and bonds
and, as such, has the ability to add diversification, reduce volatility, generate income, and,
in the case of private or non-listed real estate, provide returns that generally demonstrate
low correlation to the broad equity and bond markets.
The Drew-Walk study focused on real estate as a complementary component
of a larger multi-asset portfolio with a
40-year retirement horizon, and the
resulting impact on performance. The
researchers looked at a traditional
balanced portfolio of 60 percent
stocks and 40 percent bonds, as well
as two others that employed target
date or lifecycle funds. In simulations,
each alternative design included a
10 percent allocation to a real estate
blend of 5 percent listed and 5 percent
non-listed real estate. The addition
of the real estate component was
subtracted equally from the stock and
bond allocations of the funds. The
professors found that by adding the
blended real estate allocation to every
portfolio across the suite of target date
funds, there was a clear reduction in
downside risk. Additionally, there was
an improvement in overall wealth accumulation
over time, without giving
up much in the way of expected overall returns.
The researchers concluded that including an allocation to real estate in all scenarios
(particularly in the target date designs) achieved similar expected outcomes to those of
comparable portfolios without real estate, but achieved these results with better tail risk
characteristics and a smoother, less volatile path to the end goal-accumulating retirement
wealth to generate sufficient retirement income.
This " smoothness " highlights a fundamental role real estate can play in DC plan portfolios-which
is that it addresses the tendency of individual plan participants directing their
retirement contributions in and out of the market at exactly the wrong time.
Laurie M. Tillinghast is co-president Defined Contribution Real Estate Council. For more information, visit
www.dcrec.org.
ISSUE 2 2015 | 401kSpecialistmag.com 23

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401(k) Specialist Issue 2 - 2016

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