Style Analysis in Real Estate Markets: Beyond the Sector and Region Dichotomy

Abstract

Although returns-based style analysis has been studied extensively in equity markets, applications of this valuable tool for measuring and benchmarking performance and risk in a real estate context are still relatively new. Previous studies in the real estate market have identified three investment categories: sectors, administrative regions, and economic regions. The low explanatory power of this type of categorization, however, reveals the need to extend returnsbased analysis within a real estate context. First, the authors review the obstacles to transferring equity style analysis to real estate. Then, they apply a multivariate model to randomly generated portfolios to test the significance of four real estate investment styles in explaining portfolio returns for various types of properties—small versus big, high yield versus low yield, concentrated versus diversified, and short lease versus long lease. Results show that alpha performance is significantly reduced when the new investment styles are accounted for; the small versus big property style is dominant. In addition, the authors find that the probability of obtaining alpha performance is dependent upon the actual exposure of funds to style factors and that both alpha and systematic risk levels are linked to the actual characteristics of portfolios. Overall, the authors’ results suggest that fund managers should use one of the four (and possibly other) style factors to set benchmarks and to analyze portfolio returns.