IPD/IPF conference hears case for factor investing

Real estate fund managers have been urged to consider factor investing, a ‘third way’ that sits in between passive and active investing.

Factor investing is a process that seeks to harvest risk premia through exposure to six factors: size, high yield, momentum, quality, value and low volatility. The case for the strategy formed part of new research presented by market indices provider MSCI to the IPD/IPF Property Investment Conference in Brighton last week.

Third way
If implemented through rules-based transparent indexes, factor investing offers an alternative for implementation as it seeks to capture higher risk-adjusted returns via a systematic exposure to stock characteristics.

It also offers a ‘third way’ of investing that sits in between passive and active investing. ‘Investors increasingly recognise factors as key drivers of long-term performance,’ said Sebastien Lieblich, executive director and global head of index management research at MSCI. ‘Active share is a metric that allows investors to distinguish between true active funds and those that covertly follow a passive strategy by comparing the weight of individual securities in a portfolio relative to its benchmark.’

Lieblich pointed out that factors have outperformed over the last 40 years, despite periods of underperformance, and that the best way to avoid these is to combine factors, thereby mitigating short-term cyclicality and ensuring a ‘smoother ride’.

MSCI believes it is now time to apply factor investing to real estate, as it is emerging as a distinct asset class within the broader equity market. MSCI and S&P have announced that real estate is being moved out of the financials sector and promoted to its own dedicated real estate sector in the Global Industry Classification Standard (GICS) structure. The change will happen in August 2016.

‘Now we have the tools for investors to passively replicate a market which was deemed impossible to replicate,’ said Lieblich. ‘The massive trend in the equity world from passive to active investing can now be applied to direct real estate, which is an active and management-intensive asset class which tends to generate stronger returns,’ said Hobbs.

Whatever the future has in store, said Russell Chaplin, chief investment officer of Aberdeen Asset Management, ‘for the present asset managers add value. The individual analysis of the asset is paramount for us: we manage risk at the individual asset level without worrying too much about the benchmark. We try to understand the present through CPI indexation, nature of the leases and so on, rather than attempting to forecast the future.’

Adding value
The conference also reached the broader conclusion that fund managers still add value and therefore have a future despite the fast pace of change in the real estate sector.

The emergence of real estate as a distinct asset class is leading to innovative ways of investing but ‘the quality of asset management remains key, enforcing discipline through the market cycle and using expertise to minimise risk,’ said Peter Hobbs, managing director and head of real estate research at MSCI.

According to a spot survey conducted at the conference, 73% of delegates agreed that effective real estate portfolio management can lead to significant outperformance over the long term. As for the most important consideration for an asset owner when choosing a real estate manager, 38% of delegates believe it is the ability to beat the benchmark, while 37% opted for his or her reputation.