06/01/2004
Financial advisors say there are compelling reasons to use real estate-based assets as the cornerstone of our portfolios. As a long-term investment vehicle, real estate has a track record of growth, despite its cyclicality. It also boasts a relatively low correlation with many other asset classes, which means it lowers the overall risk of our portfolios.
Brent Fykes, whose firm Asset Management Advisors of Palm Beach
Gardens, Fla., oversees both real estate investment trust (REIT) accounts and
direct real estate investments, says the low risk of real estate is ideal for
those who have already amassed their wealth. “Our average client has an
investment portfolio of $20 million to $25 million,” he says. “They have made
their wealth and are not looking to take a great deal of risk, but rather
preserve capital. They need to be broadly diversified among all asset classes,
but have the ability to recognize overvaluation and find opportunities.” In the
current market, Fykes recommends putting 5 percent to 10 percent of our
portfolios in real estate. Last year, Fykes took on a client who was planning to phase himself out of his business. “He wanted the ability to slowly grow his portfolio over time, but also needed to supplement his income for the next two to three years,” he says. “After retiring, he needed to rely solely on his portfolio for income.”
Fykes explains: “I chose to allocate to international bonds, convertible bonds and real estate in addition to core allocations of equities and hedge funds,” he says. “I chose 10 percent for REIT stocks, with the idea that we would reduce it to 5 percent as direct real estate investments became available.”
Although REITs have a positive correlation to the S&P 500 of .51 (a correlation of 1 means they move in lockstep), Fykes notes that their low correlation with various bonds, international stocks and hedge funds gave the real estate stocks great diversification benefits for the portfolio. In the end, the client allocated his portfolio among hedge funds (35 percent), managed futures (15 percent), U.S. and international stocks (25 percent), convertible and international bonds (15 percent) and real estate (10 percent).
“The idea was to use asset classes with a low correlation to traditional fixed-income areas, but steadily grow the portfolio,” says Fykes. “The portfolio had a total return in 2003 of 23.48 percent, and the real estate portion returned 27.71 percent. Dividends made up about 7 percent of that total, giving him the extra income he needed.”
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