Are managers’ real estate offerings fit for purpose?

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Shifting working patterns following the pandemic as well as growing ESG and market risks have left many institutional investors wary about property and real estate. Furthermore, many DB schemes are preparing for buy-out and reducing their illiquid exposure as they de-risk. What role can real estate investments play in DC and LGPS portfolios, and what are managers doing to navigate risk factors and adapt their offerings?   

Trustees are increasingly worried about investing in property 

All throughout the pandemic and the subsequent reopening of the global economy, mallowstreet data indicated that UK trustees are concerned about the prospects for property as an asset class. The adoption of hybrid working after the COVID-19 pandemic is causing further vulnerability – especially for investors with allocations in commercial real estate. 

Rising interest rates are another risk putting pressure on real estate, especially now that the current bank rate sits at 4.5%. Unfortunately, this trend is not likely to reverse anytime soon until central bankers see signs that inflation is abating. 

Illiquidity is another concern for pension schemes 

Analysis by mallowstreet’s proprietary AI SOFI reveals that trustees, while conscious of the benefits real estate investments can provide, are nevertheless cautious about allocating to such assets because of their illiquid nature.

In fact, our Pension Risk Transfer report 2022, produced in partnership with Rothesay, shows that most schemes on the buy-out journey do not expect insurers to take illiquids in a transaction. Also, an emerging trend in 2023 data shows that exposure to illiquid assets mostly fits longer timelines and a run-off objective. 

Real estate has a place in both DB and DC portfolios 

Despite the difficulties investors must navigate in the market at the moment, there is still appetite from trustees on LGPS schemes.  

Additionally, our Independent Trustee Report 2021, published in partnership with Newton Investment Management, shows fewer DC schemes encounter problems with accessing property investments than other diversifiers. In fact, two thirds of DC trustees have property exposure already, as do 76% of DB schemes. 

The Pensions and Lifetime Savings Association (PLSA) notes that the long-term stability of income provided by real estate investments makes them well-suited for DC scheme objectives, fitting well both in the accumulation as well as retirement phases. 

Despite these benefits, there is lesser interest in real estate investments as a source of diversification DC portfolios than, say, private equity, as uncovered in our DC Default Diversification Report 2020, published in partnership with Partners Group. 


Real estate managers are falling short of ESG expectations 

The UN Environment Programme Finance Initiative (UNEP FI) identifies real estate and property as assets that are particularly vulnerable to the physical and transition risks posed by climate change. To account for this, robust risk mitigation strategies are vital - and managers which neglect this run the risk of these investments becoming stranded assets. 

Data analysed by SOFI also highlights that many trustees see real estate investments as a great way to achieve their climate transition goals as well as a means to deliver positive social outcomes

But even though ESG considerations are front of mind for the pensions industry, most real estate managers are falling short of their climate commitments.   

What steps can managers take to align real estate strategies with investor objectives? 

Given the evolving landscape in the real estate market, it is more important than ever that managers not only adapt to the growing urgency around the climate transition, but also tailor solutions that fit the different needs of a broader range of investors. To better understand where these assets fit in UK pension funds and insurers portfolios, mallowstreet is planning to conduct in-depth research on real estate – please contact our team if you are interested in becoming a research partner. 

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