Wednesday, November 12, 2008

Institutional investors - overinvested in CRE?

This is something I've read about before, but it bears repeating.

The "denominator effect" looms as the next force that could pressure the slumping real-estate market.

Falling stock prices are leaving institutional investors overexposed to real estate, which could trigger further declines in property values as some of the market's most-active players move to the sidelines to recalibrate their portfolios.

Big pension funds, college endowments and insurance companies typically allocate most of their investment dollars to stocks and bonds and sometimes a smaller amount -- about 6% to 10% for pension funds and as much as 30% for other institutions -- to real estate. In the past decade, as real-estate values rose rapidly, many institutional investors expanded their real-estate holdings and in many cases became fully invested in the sector or close to it, bumping up against their preferred allocations.

Now that stock values are beaten down, and because real estate is typically appraised only once a year and not daily like stocks, the relative size of the real-estate portfolio has grown and in many cases is now higher than the funds' guidelines. This is known as the denominator effect.

So, because your other assets have tanked, you have to dump dirt to retain the allocation ratios. Of course, doing so at crazy low prices...well, you get the picture. It'll be interesting to see how the big guys deal with this issue.