Asset Allocation, Cross-Class Correlation and the Structure of Property Returns

Land Management Working Paper No. 07/99

15 Pages Posted: 1 Dec 1999

See all articles by Stephen L. Lee

Stephen L. Lee

University of Reading - Department of Real Estate and Planning

Colin Lizieri

University of Cambridge - Department of Land Economy

Abstract

Practical applications of portfolio optimisation tend to proceed on a "top down" basis where funds are allocated first at asset class level (between, say, bonds, cash, equities and real estate) and then, progressively, at sub-class level (within property to sectors, office, retail, industrial for example). While there are organisational benefits from such an approach, it can potentially lead to sub-optimal allocations when compared to a "global" or "side-by-side" optimisation. This will occur where there are correlations between sub-classes across the asset divide that are masked in aggregation - between, for instance, City offices and the performance of financial services stocks. This paper explores such sub-class linkages using UK monthly stock and property data. Exploratory analysis using clustering procedures and factor analysis suggests that property performance and equity performance are distinctive: there is little persuasive evidence of contemporaneous or lagged sub-class linkages. Formal tests of the equivalence of optimised portfolios using top-down and global approaches failed to demonstrate significant differences, whether or not allocations were constrained. While the results may be a function of measurement of market returns, it is those returns that are used to assess fund performance. Accordingly, the treatment of real estate as a distinct asset class with diversification potential seems justified.

JEL Classification: G11, R33

Suggested Citation

Lee, Stephen L. and Lizieri, Colin M., Asset Allocation, Cross-Class Correlation and the Structure of Property Returns. Land Management Working Paper No. 07/99, Available at SSRN: https://ssrn.com/abstract=191888 or http://dx.doi.org/10.2139/ssrn.191888

Stephen L. Lee

University of Reading - Department of Real Estate and Planning ( email )

Reading
United Kingdom
+44 0118 931 8170 (Phone)
+44 0118 931 8172 (Fax)

Colin M. Lizieri (Contact Author)

University of Cambridge - Department of Land Economy ( email )

19 Silver Street
Cambridge, CB3 9EP
United Kingdom

HOME PAGE: http://www.landecon.cam.ac.uk/staff/profiles/clizieri.htm

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