Item Real Estate Revision to UCRP and GEP Asset Allocation

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					            Item 602A

   Real Estate - Revision to UCRP
and GEP Asset Allocation Benchmarks



    Committee on Investments /
  Investment Advisory Committee

           April 22, 2003

                0
             Recap of 3/4/03 meeting points

Pension funds/endowments/other tax-exempt investors, who invest in real
estate, invest/target 5-9% of assets in public and/or private real estate

Real estate represents ~ 8% investment universe

Real estate’s historical total return and risk between U.S. stocks and
bonds

Real estate has low cross-correlation with other asset classes =
diversification benefits

Real estate has high % of total return in current cash yield – important
for pension funds and endowments to meet cash obligations and needs

Real estate potential hedge against unanticipated inflation

Addition of real estate can improve portfolio return and lower risk under
various investment scenarios


                                    1
                                      Favorable Historical Return and Risk

                                                             Market Indexes
                                                       10 Year Return-Risk Scatters
                                                             Ended 12/31/2002

              12.0
                                                                                  NAREIT
                                                           T imberland             -Equity
              10.0
                           NCREIF                                                              S&P 500
                                             LB IT             SB 10-Yr                                       Russell
                           Property
               8.0                                                                                             3000
                                             Credit            T reasury                                                   Russell
Returns (%)




                                                                                                                            2000
               6.0
                           Cash
               4.0                                                                                         S&P 500
                                                                                                            Utilities
               2.0

               0.0
                     0.0      2.0      4.0       6.0     8.0      10.0     12.0    14.0      16.0   18.0       20.0     22.0    24.0
                                                                     Risks (Std De v)




Real Estate Indices
                 NAREIT (public REITs)
                 NCREIF (private “Core”) – risk understated due to appraisal smoothing




                                                                              2
              Public vs. Private Strategies

Public strategy (focus on publicly-traded REITs)
    Liquidity and real time pricing
    Benefits from public market oversight and transparency
    Low transaction costs
    Instant diversification
    Ease of buy and sell decisions
    Good alignment of investor and management interests


Private strategy (limited liability investment vehicles, such as limited
partnerships, LLC’s, private REIT etc.)
    Opportunity to take advantage of private market inefficiencies
    Opportunity to purchase assets not available publicly
    Lower correlations with stocks and bonds than public real estate
    Even better alignment of interests provided sponsor has invested significant
    portion of personal wealth
    Investor can have some influence on management’s major decisions




                                        3
              Private Strategies - Varied Return-Risk Objectives




            Security of Income                                                    Growth-Oriented

                                                                                                    Opportunistic

                                                                                                Good long term potential
                                                                                                Less than 50% leased
Return                                             Value-Added                                  Major asset re-positioning required
                                                                                                Major financial re-structuring
                                                                                                required
                                                                                                Leverage 50-70%
                                                     Good long term potential
                       Core                          Property specific problem
                                                     Under-managed asset
                                                     About 50% of income from existing leases
 Riskless                                            Remaining 50% of space requires leasing
                     Class A or B buildings          Leverage 50-70%
    Rate             Good to excellent condition
                     Occupancy @ market level
                     Creditworthy tenants
                     Major geographic markets
                     Leverage up to 50%



                                                      Risk




                                                     4
            Recommended Real Estate Allocation

Total Real Estate: 5% UCRP and 5% GEP

   Lower end of 5-9% among peers who invest in real estate

   Sourced by reducing U.S. stock allocation target by 300 bps and fixed
   income by 200 bps

   But the maximum permitted stock and fixed income %’s remain
   unchanged because real estate target allocation will take time to
   complete

Wilshire Associates supports recommendation




                                   5
            Total Portfolio if target benchmarks approved

UCRP Asset Allocation
                Current Policy       Policy After Adding Real Estate
 U.S. Equity             53%                    50%
 Non-U.S. Equity         7%                     7%
 Fixed Income            30%                    28%
 TIPS                    5%                     5%
 Private Equity          5%                     5%
 Real Estate             0%                     5%
                         100%                   100%
GEP Asset Allocation
                Current Policy       Policy After Adding Real Estate
 U.S. Equity             45%                    42%
 Non-U.S. Equity         10%                    10%
 Fixed Income            30%                    28%
 TIPS                    0%                     0%
 Private Equity          10%                    10%
 Absolute Return         5%                     5%
 Real Estate             0%                     5%
                         100%                   100%

                                 6
                                  Real estate in UCRP: risk-adjusted portfolio return
                                  improves


                                                                UCRP


                      10
                                UC Constrained
                               Frontier WITH real                                     Unconstrained
                       9              estate                                            Frontier
Expected Return (%)




                                                                                      0% TO 100%
                       8

                       7
                                                    UCRP 2003        UC Constrained
                       6                                             Frontier
                                                                     WITHOUT real
                                                                     estate
                       5

                       4
                           0         5              10          15         20          25             30   35
                                                           Expected Risk (%)

                                                                 7
                                   Real Estate in GEP: risk-adjusted portfolio return
                                   improves

                                                                GEP


                      10
                                UC Constrained
                               Frontier WITH real                                  Unconstrained
                       9              estate                                         Frontier
                                                                                   0% TO 100%
Expected Return (%)




                       8

                       7
                                                     GEP 2003            UC Constrained
                       6                                                 Frontier
                                                                         WITHOUT real
                                                                         estate
                       5

                       4
                           0         5              10          15            20          25       30   35
                                                          Expected Risk (%)


                                                                     8
                Impact on Portfolios

         Current Policy                     Policy After Adding Real Estate

   Return   Risk  Sharpe Ratio                Return Risk Sharpe Ratio
UCRP 7.15% 12.07% .34                         7.17% 11.89% .35
GEP 7.43% 12.67% .35                          7.45% 12.50% .36



Conclusion: Allocating 5% to real estate improves risk-adjusted returns




                                      9
             Recommend Dual Public and Private Strategy

Why?
   Public and private real estate are virtually uncorrelated
   Liquidity of public strategy can offset lack of liquidity of private
   Public market is lead indicator of private market conditions
   Provides an opportunity to actively and easily tilt the overall real estate exposure
   toward public or private strategy depending on relative valuations in the public or
   private markets (Is real estate cheaper on Wall Street or Main Street?)


Public Real Estate: target 40% (range 30-50%)
   Underweight vs. private since some (.25 - .80%) of total portfolio assets will be
   invested in public real estate through U.S. stock portfolio; REITs represent about
   1.6% of Russell 3000 Index


Private Real Estate: target 60% (range 50-70% )
   Overweight vs. public given potential superior return-risk profile vs. public
   40% Core (range 30-50%)
   60% Value and Opportunistic (range 50-70%)



                                       10
              Examples of Investments

Public Strategy
    Publicly-traded real estate investment trusts (REITs)

Private Strategy
    Limited partnership with other like-minded limited partners where partnership
    invests in office buildings
    Limited partnership interest where general partner is a public REIT that invests
    in industrial properties
    Common stock in an Limited Liability Corporation (LLC) that would own retail
    properties
    Common stock in a private REIT that is formed to own apartment buildings
    Purchase, in the secondary market, an existing investor’s limited partnership
    interest in a partnership

Private strategy does not involve purchasing 100% (or less) of assets
directly in name of The Regents or entering into “separate
accounts”where assets are purchased by sponsors on behalf of The
Regents.


                                       11
               Real Estate Portfolio Construction




                 Recommended   $ invested @      Number of   $ invested   Number of
                 Real Estate   full allocation   Managers    per          Investments
                 Allocation    and assuming      (Public)    Manager
                               no change in      and         or
                               overall           Sponsors    Sponsor
                               portfolio         (Private)
                               value
Public Real      2% (40%)                        5           $135 M       NA
Estate
  UCRP                         $600 M
  GEP                          $80 M
Private Real     3% (60%)                        10-15       $70-100M 20-30
Estate
  UCRP                         $900 M
  GEP                          $120 M
Total            5%            $1,700 M




                                   12
               Item 602B

Real Estate Investment Process and Portfolio
                  Guidelines


        Committee on Investments /
      Investment Advisory Committee

               April 22, 2003

                   13
           Real Estate Consultant

Russell Real Estate Advisors retained conditional on Regents’
approval of investing in real estate
   Established in 1971; office located in San Diego

   Experienced team of 12 professionals with many years of service w/ firm

   Good blend of mid/large sized and public/private client base with real estate
   assets totaling $35 billion

   Extensive property market knowledge and database

   Strong research capabilities

   Services: portfolio construction and strategy advice, due diligence services,
   portfolio analytics, program oversight, and investment structuring

Wilshire Associates and Russell support the recommended
investment process and guidelines

                                  14
            Implementation of Public and Private Strategy

Investment Philosophy

Investment Return Objective

Investment Process

Portfolio Construction (reviewed in Open Session Item)

Portfolio Guidelines

Portfolio Benchmarks




                                 15
         Public Strategy – Investment
         Philosophy/Objective

Investment Philosophy
   Invest primarily for the long term

   Focus on larger, more liquid securities

   Invest in companies with sustainable cash flow that can grow and
   support the dividend pay-out

   Invest in companies that act in shareholder’s interests

   Reasonable valuations with focus on Net Asset Value (private
   market value) per share

Investment Return Objective
    5% real rate of return



                               16
             Public Strategy – Process

Hire external managers selected thorough due diligence process focusing
on the following criteria:
    Experience
    Clear and sustainable strategy
    Track record of superior performance and relatively low volatility with
    little or no leverage
    Risk management procedures and controls
    Client service and operations, including research
    Trading capabilities

Detailed due diligence process similar to that used for absolute return
strategy
    Hire independent consultant to perform parallel due diligence process
    Staff and consultant must concur prior to manager selection




                                   17
              Public Strategy Process

                                Screen manager to meet minimum criteria
                                                                                                 Reject


                                Initial consideration by Treasurer’s Office
                                                                                                 Reject


  Consultant Initial Review                                                       Treasurer’s Office
                                                                                   Further Review


Reject                                         Accept                                        Reject/Track



                                       Prioritize for Due Diligence



    Consultant Due Diligence                                                  Treasurer’s Office Due Diligence


 Reject                          Review by Treasurer’s Office                                   Reject/Track
                                    Real Estate Co
                                                Committee

                                                                                                   Reject
                                          Approval by
                                        Treasurer’s Office
                                                                                                   Reject
                          Manager contract negotiated and investment made


                                   Report to Investment Committee and
                                    Investment Advisory Committee


                                                  18
         Public Strategy – Guidelines/Benchmark

Minimum 90% must be in benchmark; up to 10% in other G-10
countries

No property type may exceed 2 X its benchmark weight

Individual security not more than 3 X its benchmark weight

Individual security not to exceed 5% of equity market cap

No investment with single manager can represent more than 25% of
the public real estate portfolio

No investment with any single manager may exceed 25% of that
manager’s total assets under management

Benchmark – Wilshire REIT Index


                             19
         Private Strategy – Investment
         Philosophy/Objective

Investment Philosophy
   Invest for the long term, although select sponsors with a sell
   discipline

   Emphasize alignment of interest by requiring meaningful sponsor
   co-investment and not merely asset accumulation

   Invest through limited liability investment vehicles

   Appropriate governance mechanisms

Investment Return Objective
    5% real rate of return




                               20
             Private Strategy – Process

Hire sponsors selected thorough due diligence process focusing on the
following criteria:
     Experience
     Clear and sustainable strategy
     Track record of superior performance and relatively low volatility
     Risk management procedures and controls
     Client service and operations, including research
     Acquisition/Disposition/Asset Management capabilities

Detailed due diligence process similar to that used for private equity
strategy
    Hire independent consultant to perform parallel due diligence process
    Staff and consultant must concur prior to manager selection




                                   21
                Private Strategy Process

                             Screen sponsor/investment to meet minimum criteria
                                                                                                 Reject


                                      Initial consideration by Treasurer’s Office
                                                                                                 Reject


Consultant Initial Review                                                       Treasurer’s Office
                                                                                 Further Review


Reject                                           Accept                                     Reject/Track



                                      Prioritize for Due Diligence



  Consultant Due Diligence                                                Treasurer’s Office Due Diligence


 Reject                                    Review by Treasurer’s Office                        Reject/Track
                                           Real Estate Committee

                                                                                                     Reject
                                            Approval by
                                           Treasurer’s Office
                                                                                                     Reject
                            Investment agreement negotiated and investment made


                                  Report to Investment Committee and
                                  Investment Advisory Committee


                                                      22
           Private Strategy – Guidelines/Benchmark

Limited Liability Investment Vehicles
Primarily equity-oriented
Property type
   Office: 0-50%
   Industrial, retail and multi-family: 0-35% each
   Other: 0-10%
Minimum 80% U.S.; maximum 50% in any one U.S. geographic region
No investment more than 50% of total capital being raised
No more than 25% of private real estate portfolio can be invested with a single
sponsor or related sponsors
Portfolio cannot exceed more than 25% of a sponsor’s, or group of related
sponsors’, total equity under management
“Core” target 40% (range of 25-75%); “Value” and “Opportunistic” target
60% (range of 25-75%)
Sponsors of “Value” and “Opportunistic” funds must meaningfully co-invest
Leverage may not exceed 50% of market value of all investments
Benchmark – NCREIF Index




                                     23
           Ongoing Monitoring of Managers/Sponsors

Necessary to regularly reaffirm the original investment decision

Internal risk and return expectations will be established at time of investment
so managers/sponsors can be evaluated

Portfolio characteristics will be examined over time to review guideline
compliance and examine for style drift

Investment staff will conduct frequent meetings/calls with managers/sponsors
and periodically inspect assets

Establish criteria for placing managers/sponsors on watchlist or potential
termination

Risk management staff will provide independent risk oversight function
(establish risk measurement and monitoring procedures, minimum data
requirements, etc.)




                                  24