Whilst we applaud the launch of the INREV Asset Index, we would caution against an Index, based on past asset level performance, replacing time spent really understanding what differentiates the best asset managers from the rest. In the following article our non-executive chairman, Simon Latham, explores some of the issues.
Last week, INREV launched its new pan-European Asset Level Index after three years of collaboration between the 30-member organisation. Containing five years of asset level performance data on around 7000 assets, the Index aims to allow investors to improve portfolio allocation and risk management by providing an historic series of returns that will improve alignment between the investor and the asset manager. To us, this looks like an over simplification of a complex subject.
Since real estate became an accepted asset class, investment managers have been making the case for enhanced allocation relative to other asset classes, running complex models to create efficient portfolio strategies that provide an edge at a sector level and where possible, drive performance through creative asset management at a property level. Mandate retention through comparative out-performance has sat alongside the need to create a point of difference, a unique selling point, that would set a manager apart from the competition and allow sustainable and repeat business growth. An approach which assumes there is no such thing as a passive asset and that, in a property’s life cycle, each lease event is an opportunity to create value over cost, is one key area where such a point of difference can be created.
With direct real estate remaining a relatively illiquid asset, and valuation being based on past and provable market transactions rather than an analysis of future earnings potential on a risk adjusted basis, good sector allocation can certainly create an edge on performance. The best performing sector in any one year is likely to be the best the following year, as any change to the sector dynamics takes time to filter through the valuation process. This can produce a degree of protection to a manager running an efficient portfolio strategy based on sector allocation, whilst also flattering the returns. For such an approach to work, it has to assume, to some degree, that the majority of assets within any given sector will perform in line with market rather than the performance being driven by unique asset differentials.
Fund managers have long been subjected, on a quarterly basis, to in-depth face-to-face review by the multi managers. These reviews look to dissect all elements of portfolio and asset strategy in order to create a scorecard that lists the managers ability to consistently deliver both the performance and risk management that merits them being included in their clients’ globally diversified asset allocations. I cannot believe these same multi managers, who need to justify an extra layer of fees for their services, would suddenly give up this analysis in favour of a paper-based review of headline asset performance.
Understanding why some managers consistently produce alpha cannot be purely based on the review of such a blunt instrument as an asset level index showing past performance. Core and Core Plus strategies looking to go beyond a low volatility beta return rely on a manager’s ability to identify short to medium term opportunities in order to add alpha to a beta strategy that would usually be applied across such an asset.
This requires a deeper understanding of a manager’s ability to monetise their ideas. How do they use top-down and bottom-up research to create structure? how do they identify and implement opportunities that maximise the performance of any given asset? How effective are they with the timing of the buy and sell decisions? There are many direct and indirect reasons why an asset performs the way it does. Some are led by the market, others by the physical asset and/or the lease profiles, and others purely by the manager’s ability or otherwise to see that an opportunity exists at all. Headline numbers will very rarely show the full picture.
In any cyclical market the margin between success and failure can often be very small indeed. We would caution against an investor making an investment decision purely on an indexed based review of past performance. We would certainly advocate a more rounded approach. One that looks beyond the headline numbers to fully understand the abilities of a manager to apply stock-led strategies which never accept that an asset is passive until such time as all the avenues to create value over cost have been explored.
- May 2019
Written by Simon Latham, non-executive chairman