UK - Pension funds should invest up to 15% of their total assets in property, research by Merrill Lynch Investment Managers reveals.
The fund manager is bullish about the asset class – which currently represents only a small part of scheme portfolios because it is seen as illiquid – following fresh analysis of its risk, return and diversification characteristics.
Its new research report – Pension Funds and Property: Should See More of Each Other – says pension funds should invest 20% of the equity portion to diversified UK property.
The report found property was an attractive “third way” asset class, generating returns midway between equities and bonds, while still providing diversification.
Head of its strategic advice service, Robert Hayes, said: “More than ever, pension funds need to find true diversification and our latest analysis underlines property’s power in doing this.
“It also offers value as a steady high income stream and, particularly in these uncertain times, quality as a hedge against inflation and partial hedge against deflation.”
The report also found that while the income stream for property was less certain than government bonds, it is more reliable than dividends because corporate tenants can cut the dividends but they must pay rent.
Hayes said property was a better investment choice than equities and bonds because it offered cost-effective protection against inflation as well as deflation.
“As prices and wages increase individuals and corporates can afford higher rents.”
He added: “On the flip-side, the structure of the typical UK property lease with upwards only rent reviews can also provide some potential protection against deflation. Neither equities nor index link gilts can offer this.”
Mercer Investment Consulting head of investment strategy Andy Green agreed property was a good diversifier.
There is a much more positive rationale for property now. Disclosed valuations and returns are relatively smooth compared to equities and the daily volatility is not as high.”
And he suggested pension funds invest in properties that have long leases, high lease values and high quality tenants.
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