International Evidence on Real Estate as a Portfolio Diversifier

Abstract

This paper provides an international comparison of the benefits of including real estate assets in mixed-asset portfolios. Real estate returns are desmoothed using a variant of the Geltner (1993) approach, and Bayes-Stein estimators are used to increase the stability of portfolio weight estimations. Both unhedged and hedged analyses are conducted. Real estate is found to be an effective portfolio diversifier, and even more so when both domestic and international real estate assets are considered. The optimal allocation to real estate is 15% to 25%, and remains stable when the level of the standard deviation of real estate is altered. Real estate allocation between domestic and nondomestic assets, however, varies substantially across countries, depending on whether returns are hedged or not.

Keywords: mixed-asset portfolio, real estate, diversification, international, domestic

JEL Classification: L85, D40, D31, D21, D57, D61, D81, D91, D92