Investing for the Long-Run in European Real Estate: Does Predictability Matter?

43 Pages Posted: 28 Jan 2005

See all articles by Carolina Fugazza

Carolina Fugazza

University of Torino -Department of Economics ESOMAS; Center for Research on Pensions and Welfare Policies

Giovanna Nicodano

University of Turin - Department ESOMAS; Collegio Carlo Alberto; CEPR; EGCI; Netspar

Massimo Guidolin

Bocconi University, Dept. of Finance; Bocconi University - CAREFIN - Centre for Applied Research in Finance

Date Written: May 2006

Abstract

We calculate optimal portfolio choices for a long-horizon, risk-averse investor who diversifies among European stocks, bonds, real estate, and cash, when excess asset returns are predictable. Simulations are performed for scenarios involving different risk aversion levels, horizons, and statistical models capturing predictability in risk premia. Importantly, under one of the scenarios, the investor takes into account the parameter uncertainty implied by the use of estimated coefficients to characterize predictability. We find that real estate ought to play a significant role in optimal portfolio choices, with weights between 12 and 44 percent. Under plausible assumptions, the welfare costs of either ignoring predictability or restricting portfolio choices to traditional financial assets only are found to be in the order of 150-300 basis points per year. These results are robust to changes in the benchmarks and in the statistical framework.

Keywords: Optimal asset allocation, Real estate, Predictability, Parameter uncertainty

JEL Classification: G11, L85

Suggested Citation

Fugazza, Carolina and Nicodano, Giovanna and Guidolin, Massimo, Investing for the Long-Run in European Real Estate: Does Predictability Matter? (May 2006). Available at SSRN: https://ssrn.com/abstract=902708 or http://dx.doi.org/10.2139/ssrn.902708

Carolina Fugazza

University of Torino -Department of Economics ESOMAS ( email )

Torino
Italy

Center for Research on Pensions and Welfare Policies ( email )

Torino
Italy

Giovanna Nicodano

University of Turin - Department ESOMAS ( email )

Turin, 10134
Italy

HOME PAGE: http://https://www.carloalberto.org/person/giovanna-nicodano/

Collegio Carlo Alberto ( email )

Piazza Arbarello 8
Torino, Torino 10121
Italy
390116705006 (Phone)

HOME PAGE: http://https://www.carloalberto.org/person/giovanna-nicodano

CEPR ( email )

London
United Kingdom

EGCI ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Netspar ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Massimo Guidolin (Contact Author)

Bocconi University, Dept. of Finance ( email )

Via Roentgen, 1
2nd floor
Milan, MI 20136
Italy

Bocconi University - CAREFIN - Centre for Applied Research in Finance

Via Sarfatti 25
Milan, 20136
Italy

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