Managing Portfolio Risk in Real Estate

This paper seeks to map out a practical way for managing risk in property portfolios. The approach adopted is to identify the factors that cause volatility in property returns. The factors are categorised in two groups – ‘fundamental’ causes of property return volatility and ‘modulators’ that dampen or exacerbate the variance emanating from the fundamentals. This approach enables a risk profile for individual property portfolios to be presented showing their relative exposures on the different risk dimensions. Analysis of the IPD UK universe of funds shows both that a number of the identified risk variables are correlated with higher tracking error and that the main types of UK investment fund have different risk profiles. Preliminary analysis is presented on the development of a model for predicting the tracking error for UK portfolios. The initial results show some promise but the model as specified here is not capturing a significant portion of the variance.