THINK real assets

In a world of low return expectations and even lower interest rates, pension plans are reevaluating their portfolios, looking for alternative ways to achieve return targets and improve funded status. Diversifying portfolios with real assets helps address these challenges. They can reduce portfolio volatility, enhance returns, and generate yield. 

However, allocating to real assets is rarely straightforward. Investing in this asset class – whether it is real estate, farmland, timberland, commodities, or infrastructure – is often considered a trade-off between performance and liquidity. In this paper, we highlight how real asset allocation decisions are more nuanced and complex than this perception suggests and we offer a framework to help with those decisions.

Focusing on farmland, infrastructure, and real estate, we explore the features of real assets that investors should consider when selecting the appropriate allocation for achieving their investment objectives. 

We discuss three different approaches to real asset portfolio construction – the prevailing deal-driven approach with which many institutional investors are familiar, a strategic factor-based approach and a hybrid approach. We present the factor-based approach in detail. It helps investors understand the sources of risk and return in a portfolio, revealing insights that help answer the questions ‘are real assets delivering the expected diversification benefits?’ and ‘are investors getting the exposure they are paying for?”. 

This approach also guides investors to selecting the appropriate investments for implementing their real asset exposure. However, sourcing those investments is a challenge, which is why we present the hybrid approach. It reconciles real life investment opportunities with the factor risk framework. It allows investors to optimize their allocation to real assets and ensures they are allocating portfolios to the risks for which they expect to be rewarded.