With the world economy still recovering from the COVID-19 pandemic and now dealing with the Ukraine-Russia crisis, markets face a great deal of uncertainty. Michael Steingold (director, private markets) examines whether now is the time for investors to consider a multi-asset approach to take advantage of alternative property sectors.
While traditional sectors struggled, the alternative real estate sectors earned their stripes during the pandemic. They offered investors access to long-term growth trends with low correlations to the broader economy. As we come to grips with the ongoing tragedy in Ukraine, we are reminded of the diversification power these sectors offered when COVID-19 was at its peak.
What is an alternative asset?
The sectors in this category are myriad and include student housing, data centers, medical offices and self-storage, among many others. Office and retail spaces faced existential crises due to government-mandated lockdowns worldwide, but many of these non-traditional investments performed well. Their value during periods of market disquiet has been unambiguous, especially as rising commodity prices and credit spreads now threaten global growth. Procyclical property sectors, like industrial, may be vulnerable in an environment of lower growth.
A different approach
In the past, investors would ask whether alternative assets should be classed as real estate at all. We believe that a more nuanced question would be: given the diversity of business models in these sectors, and considering the overlaps with other asset classes, could we get better outcomes from a multi-asset approach?
This strategy involves considering the full opportunity set of alternative sectors, which blurs the boundaries of the property asset class into lower-risk infrastructure and higher-risk private equity. Combining the wide variety of these investments thoughtfully can create an agile and well-diversified portfolio. Taking this approach gives investors the flexibility to focus on the bigger picture. Rather than trying to fit asset-level exposures into a particular silo, the multi-asset approach allows us to consider these investments as part of a total portfolio.
Asset classifications are overly simplistic
The simplicity of sector names can belie each asset’s bespoke management strategies, risk exposures, cash flow profiles and return distributions. Our approach is to consider the characteristics of an individual investment and its fit within the overall portfolio, regardless of whether it is classified as real estate, infrastructure, or something else. We look at risk exposure and drivers of growth, paying particular attention to where unintended concentrations or equity correlations may arise.
How cash flows vary
We look at capital structure, market characteristics, sustainability, physical resilience and cash flow variability when determining whether an investment compliments other assets in the portfolio. Cash flows in particular can vary widely within alternative assets.
Take student housing as an example. On one end of the spectrum, the school or university takes on all the leasing and pricing risk, so cash flows are fully specified in advance. In other cases, the assets could be located off-campus and leased directly to students, meaning the investor takes on all the leasing, pricing and residual value risk.
A multi-asset approach allows us to be nimble, placing different cash flow assets within the appropriate allocation.
The bottom line
Rising interest rates, unpredictable inflation and questions about the long-term relevance of traditional assets form an uncomfortable backdrop for the global economy. We believe this uncertainty has only accentuated the relevance of alternative assets.
A multi-asset approach gives investors access to the risk and growth exposures offered by alternative assets, benefiting from the full range of styles while avoiding unwanted concentrations or overlaps with other assets. In an increasingly volatile economic and political environment, this strategy can provide precise visibility of risk and the flexibility to focus on the total portfolio.
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