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Real Assets

An Institutional Investor Sponsored Report

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From office buildings in New York to tracts of timberland in Canada to toll roads in Brazil or airports in Spain, the world of real assets is filled with a growing array of investment opportunities.

“Interest is growing in different types of real assets,” says Jose Minaya, head of global private markets asset management, TIAA-CREF. “One of the benefits of real assets is their role in portfolio construction. When you look at the efficiency frontier, adding exposure to real assets generally improves your Sharpe ratio [returns in excess of the risk-free rate].”

In a global market characterized by low returns and multiple risks, adding real estate, infrastructure, commodities, timber, agriculture or natural resource equities can diversify an investment portfolio, generate a steady income stream and create opportunities for higher risk-adjusted returns.

“Investors appreciate the ability to have an understandable business model rather than a ‘black box’ approach,” says Craig Noble, CEO/CIO of Brookfield Investment Management. “They know that bricks and mortar assets have stood the test of time.”

Vince Childers, senior vice president and real assets portfolio manager, Cohen & Steers, has seen increased interest in real estate investment trusts (REITs), listed infrastructure securities, master limited partnerships (MLPs) and natural resource equities in recent years. “Defined benefit (DB) and defined contribution (DC) plan sponsors are among the institutional investors looking at both individual real asset classes and multi-asset solutions,” he says.
After researching the benefits of real asset allocations for several years, Childers says investors have three major goals in mind. “One is owning assets with a potential premium in terms of expected returns,” he says. “A second goal is inflation protection, especially to unexpected spikes. The third is to gain a broader diversity of assets in the portfolio. Historically, real assets can pay off during periods when stocks and bonds are not doing so well.”

When investors look at real assets, they should know what kind of exposure they are seeking,” Minaya says. “For example, if you invest in a greenfield development in an emerging market, you may be exposed to construction and development risks in addition to the overall agriculture thesis. The same dynamic occurs in infrastructure, so you should be clear on whether or not you want to assume those risks.”

Benefits of private strategies
One of the many choices for investors is whether private ownership, listed public securities or a combination of the two makes the most sense. “Liquidity can be a good thing if you want to get invested quickly and allocate small amounts,” says Noble. “However, there will be greater short-term volatility compared with private holdings. It all depends on what an investor is seeking, as there are many ways to access this class.”
Whether investing directly or through public securities, cash flow is one of the key potential benefits of real assets, says Noble. “Investors also like the attributes that real assets offer, including steady income with growth potential,” he says. “As interest rates have bottomed, that growth element is very attractive to many investors.”

Investors looking for the benefits of holding assets with low correlations to traditional stocks and bonds should consider investing in a private market, says Minaya. “The resulting illiquidity reduces the asset’s correlation with publicly traded stocks, bonds or other assets. In other words, it can reduce exposure to market risk. Assets with higher barriers to entry may also create greater opportunities.”

Minaya adds that this is an asset class where scale matters. “You need a large balance sheet and a long-term investment horizon to deploy funds directly in this space,” he says. “As a general rule, buy real assets for how they interact with other components of your portfolio, but not if you need liquidity in a few years.”

In the infrastructure sector, private investments typically have long-dated contracts linked to inflation with a cash-yield component. “You own an asset with intrinsic value that provides income and potential for capital appreciation over the long term,” Minaya says.

Growth of listed strategies
Institutional investors have traditionally focused on private real estate, and private equity infrastructure, timber and farmland, says Steve Dunn, executive vice president and director of institutional marketing, Cohen & Steers. “However, since the global financial crisis, many have paid greater attention to liquidity,” he adds. “As a result, they are completing their alternatives allocations with more liquid strategies, including REITs and listed infrastructure. This gives them greater tactical flexibility. Even frozen DB plans are adjusting their asset allocations in keeping with their risk-reward targets.”
Dunn is seeing increased interest in listed real assets in the DC market. Daily pricing and liquidity is important to plan sponsors, who are pursuing multi-asset and custom target date funds (TDFs) that incorporate these strategies, he adds. “They see that real assets perform differently than stocks and bonds in inflationary periods. DC plan sponsors want to simplify their options and multi-asset and TDF strategies make sense for participants’ portfolios.”

Currently, listed or liquid real assets constitute 5 percent or less of an institutional investor’s portfolio, says Childers. “However, there is a great deal of variability. Large plans are complementing their private investments with listed real estate to provide liquidity while getting core exposure to real assets.”

Building a global portfolio
Over the past few years, more investors are taking a global approach to real asset investments, says Dunn. It is hard to build a diversified global infrastructure or real estate portfolio in the private markets and there are long “lock-up periods” for private equity vehicles before investors can withdrawn funds. “Also, the risks can be greater, since the rules of engagement change from country to country,” Dunn says. “Embracing a listed real assets strategy allows investors to be more tactical and responsive to those forces.”
James Clark, client portfolio manager for Nuveen Asset Management, says there is a growing opportunity set of companies that operate real estate and infrastructure businesses around the world. “Real estate is a very well defined asset,” he says. “What is most compelling from an investment standpoint is the recurring nature of the asset’s cash flow. There is an ebb and flow to the economic cycle, but a commercial building isn’t going anywhere. Even in a downturn, that building will be leased.”

Investors are even more insulated from market swings with infrastructure assets, which are part of the fabric of a regional or national economy, adds Clark. “Holding assets with less cyclicality, long-term contracts and recurring cash flow can bring some level of certainty for investors.”

However, it’s important for investors to understand a manager’s approach to the infrastructure market and make well-informed risk-reward decisions, according to Clark. “Good questions to ask a manager include, ‘What is your definition of infrastructure?’ ‘How global is your approach?’ and ‘What sectors or countries will you consider?’”

In the agriculture sector, investors now have a growing number of managers with skills and experience in this field, says Minaya. “While there has been an increase in information and expansion of scale, there is still a scarcity of research relative to other more developed asset classes,” he says. “Agriculture today is also underserved in terms of access to capital.”

Looking ahead, Childers expects allocations to this emerging asset class will increase in the next three to five years. “Many institutional investors already recognize the importance of having real assets in their allocation, while others are still studying the research,” he says, adding that some investors are not yet up to their target weights. “I think we will see a desire to fill out that allocation with a broad approach that includes many types of real assets.”
By Richard Westlund


Interest in, and experience with, real assets among institutional investors has never been higher. The package they offer of potential attractive total returns, portfolio diversification, and protection against inflation is garnering more and more attention in today’s environment of near record low interest rates and historically steep equity valuations.

Real assets have been an area of increasing importance for institutions, helping investors diversify sources of risk and return and preserve value amid years of unprecedented central-bank stimulus. This growing category accounts for roughly 10 percent of most institutional portfolios today — surpassing 25 percent in some cases — spanning real estate, infrastructure, commodities, farmland, timber and other real assets.

While there is broad agreement in the industry that privately owned investments constitute real assets, a few holdouts remain unconvinced that securities such as real estate investment trusts, master limited partnerships, listed infrastructure companies and other publicly traded vehicles should be included in the real assets mix.
However, when we examine the characteristics of both listed and private real assets across key investment criteria often associated with real asset investments, we cannot conclude that private investments are somehow “more real” than their listed-market counterparts.

Real Asset Characteristics: 
Potential Diversification, Return 
and Inflation Protection
Rather than measuring the diversification potential of real assets using correlation data (which, for private real assets, are rendered virtually useless due to infrequent and biased valuation marks), we asked a different question: How have real assets done when both stocks and bonds underperformed their long-term aveages at the same time? These periods represent breakdowns in traditional stock-and-bond diversification, when an allocation to alternative investments could be particularly helpful.
This scenario of joint stock/bond underperformance has occurred in almost one quarter of rolling 12-month periods since the early 1970s. To capture the return series for private real assets, we must look at a shorter history of data going back to the early 1990s. During this span, simultaneous underperformance was less frequent, representing about 10 percent of the rolling periods, concentrated mostly in 1993-1994, the late 1990s/early 2000s, and again in 2004-2006. What we found is that when stocks and bonds were below average, real assets generally had solid gains: a basket of listed real assets produced annualized real returns of 7.9 percent in these periods, compared with stocks at 2.1 percent and bonds at -1.6 percent. Notably, these returns for listed real assets were comparable with private real estate and only modestly below timberland and farmland.

Diversification potential is all well and good, but it won’t help investors much if the opportunity cost is too high. Over the past two decades, real estate securities, listed infrastructure and natural resource equities have exhibited average inflation-adjusted returns in the 6 percent to 9 percent range, generally on par with broad-based equities and similar to private real assets. The exception is commodities, which have had a stretch of subpar returns in recent years (although the full history going back to the 1970s is more constructive). Again, we find no reason to conclude that illiquid real assets are somehow “more real” than their liquid counterparts.

It is clear from historical data that neither listed nor private real assets are dependent on an adverse, 1970s-style inflation scenario to generate attractive full-cycle returns. In fact, the returns discussed above span an era notable for its absence of serious inflation. However, inflation sensitivity is a hallmark of all real asset categories. Whereas stocks and bonds tend to react adversely when realized inflation overshoots expectations, listed and private real assets have generally exhibited positive price sensitivities to inflation surprises. This indicates a tendency for real assets to deliver above-average returns precisely when inflation is likely to weigh on stocks and bonds.
One critical point is that no single category under the real assets umbrella can serve as a “silver bullet” that performs across all of the investment criteria noted above. While certain asset classes might look attractive individually, our research shows that a diversified blend of real assets has historically provided the best experience for investors.

Pairing private and listed for optimal allocations
Many institutions continue to favor private over listed real assets, drawn to the apparent “free lunch” of relatively low measured volatilities and correlations. However, measurement biases in the private market are widely acknowledged, and in our view, such distortions should never be seen as a legitimate source of diversification benefits.
Rather, we find that the universe of real assets offers a highly segmented opportunity set. This presents a clear and present opportunity for institutions to realize large efficiency gains from diversifying across listed and private markets. We think this balanced approach makes sense, as real assets are best defined by the economics of the underlying assets rather than by differences in ownership structure.

In other words: what’s real is real, regardless of the ownership vehicle.

By Vince Childers, senior vice president and portfolio manager for the real assets strategy at Cohen & Steers, based in 
New York City.

3. THE EVOLVING CASE FOR TIMBERLAND MANAGEMENT: How Global Demand, Science and Sustainability are Creating New Opportunities for Investors

Timber has produced attractive investment returns at relatively low levels of volatility over the past quarter-century, and its future demand also looks promising. But the asset class has encountered some headwinds since the U.S. housing crash, causing some investors to wonder whether timber markets have become too efficient with a limited opportunity set. While correlation with other major asset classes was largely negative through the 1960s, 1970s and 1980s, the relationship has shifted at times to mildly positive since the 1990s (see Exhibit 1). Also since the 1990s, investors have seen a recurring pattern of timber bull markets and busts coinciding with and driven by fluctuations in the U.S. housing market.

A compelling case for investing in timberland remains but has evolved for both cyclical and structural reasons. Investors need to be aware of these developments and align themselves with a manager capable of navigating an increasingly complex and global marketplace.

There are many fundamental drivers that point to an especially bright future for timberland investing. While there are no guarantees that past performance will be repeated, emerging markets countries’ rapid economic expansion and population growth, plus the long-term build-up of infrastructure is creating strong, long-term global demand for timber. As long-term global demand for timber has grown, however, harvesting trees from native forests has become more challenging, forcing managers to adapt. Increased environmental restrictions on logging, and heightened enforcement of illegally-logged wood, for example, have shifted timberland management’s focus to meeting future wood demand through intensively-managed plantations, which in many ways are more similar to agriculture than traditional forest management and harvesting. By one estimate, wood consumption is projected to rise 59% from 2010-2030, which means timberland managers will come under pressure to deliver more wood on fewer acres and at faster rates in the decades to come.

A Changing Environment
Timberland investing is entering a new era and while demand for wood is expected to rise, the opportunities going forward differ from those experienced over the last several decades. Some of the key factors currently changing the face of timberland investments include:

An end to industry restructuring: During the 1980s and 90s, forest products manufacturing companies in North America decided to sell their timberland and buy the trees back from the new owners. This transition in timberland owners created a new opportunity for institutional timberland investment. Initially, timberland was undervalued, because it was illiquid and not well understood. Additionally, operating companies were subject to different tax rules, which made timberland less valuable to them than to financial investors. As this industry restructuring matured, more buyers have taken advantage of the unique qualities of the asset. Consequently, the market has become increasingly competitive and return expectations on domestic timberland investments have moderated.

Shifting macro environment: The global financial crisis reduced demand for manufactured products of all types, timber included. The U.S.-based NCREIF index, in particular, has been affected by the protracted recovery of the American housing market. However, even as developed markets slow, new markets have opened. Growing populations and a burgeoning middle class in emerging market countries are generating increased demand, even as developed economies moderate. Also, as the need for alternative energy continues to be a global concern, wood pellets and biomass are continuing to be pursued aggressively. This growing demand, coupled with the world’s focus on sustainability and better management and protection of our global natural forests, has resulted in the need for improved management of existing timber assets and the development of new sustainable tree farms to meet increasing future demand.

Moderating returns in U.S. markets: Domestic timberland investments have provided lower returns in recent years, as the U.S. market has completed its restructuring and the global financial crisis has reduced domestic demand for timber products. This shift in returns provided by the domestic market can be seen in the benchmark NCREIF Timberland Index, where returns have fallen from an annual average of 15.8% from1987-2003 to 8.5% from 2004-2014 (see Exhibit 2). In addition, the components of returns have shifted, with less coming from cash flow and more from capital appreciation associated with declining capitalization rates.

Investors carving out strategies in international markets have been less exposed to maturing U.S. markets and weakness in U.S. housing and have benefited from greater exposure to emerging market growth.
Higher correlations as housing drives all markets: Correlations of timberland with other investments have largely increased over the last two decades. From the mid-1990s through today, we have seen the pattern of a bull market coinciding with and driven by a housing boom, while the subsequent bust brought increased correlations across seemingly every major asset class.
All these factors have made it more difficult to take advantage of the investment opportunity that timberland offers — and more critical to work with an experienced, forward-looking manager. The market as a whole may be more competitive than in years past, but astute investors can still find compelling opportunities.

Evolving Timber Markets: Global, Flexible and Scientifically-Driven
Evolving global timber markets require a new approach to timber investing and management. First, an expanded geographic reach is necessary to develop a truly globally diversified timber portfolio for institutional capital. Second, scientific research and the application of farm-like management to timber is necessary in order to produce more wood on a limited land-base. And third, identifying and developing a global, regional, and local knowledge base of forest management and markets. Together these three elements are essential to understanding markets—from traditional forest product markets for saw logs to produce lumber and veneer, pulp logs to produce chips for pulp, and paper and panels to renewable energy markets where woody biomass is used for power generation and biofuels—and investing in timberland.

Today’s timberland market offers exceptional opportunities for investors who are experienced in and capable of creating and identifying value. With the market evolving, investors must be flexible, and seek out new ways of analyzing, acquiring and managing timber investments. At TIAA-CREF and GreenWood Resources, we have identified five key strategies for enhancing returns in timber investments:

Growing trees for growing markets: Diversification is the key to achieving the best risk-adjusted returns in timber due to the dynamic nature of the global forest products industry. We believe a globally-diversified timber investment portfolio leverages the values of today’s core timberland returns with enhanced returns from investments in regions of the world that have the dual tailwinds of a growing wood market and places where there are opportunities to grow trees faster. Today’s portfolio construction has largely been influenced by the rationalization of timberland held by North American forest products companies and therefore is over-weighted to U.S. domestic softwood assets. Looking at growth in demand for forest products by geography shows the highest growth rates in South America, Asia, and Eastern Europe. Expanding investments to regions where growth in timber demand is expected to be higher in the decades to come provides investors the benefit of a more geographically diversified portfolio in terms of risk-adjusted returns and a hedge against the potential for rising inflation. Managers who provide access to both core timberland investments and can identify emerging opportunities in growing markets early, and position their timberland portfolios appropriately, will flourish in the new environment.

Active management and proper alignment with investors: Active management is important for achieving desired long-term returns in timber investments. We believe this involves understanding the regional and local factors influencing day-to-day timber operations, which is best achieved through an integrated management approach and by forging key local partnerships. Investing in these emerging opportunities often involve counterparties that are not just looking for capital but also managers that can provide active professional forest management expertise and key financial and forest management systems to help institutionalize these operations. As many timber investors desire and seek out direct or separate account investment opportunities, working with a manager that can provide an integrated management approach provides a more transparent alignment under these types of engagements. Investing in emerging markets may be more difficult, however, for direct or separate account investors seeking the value of large single transactions. As such, bringing together like-minded investors into new investment entities that balance the need for transparency and a voice in the destiny of the investment program with the ability for the integrated manager to execute is key to achieving proper alignment with investors.

Disciplined investing: The importance of achieving the best price whether for land or standing trees at the beginning of the investment process can’t be overstated. This is achieved through global and local knowledge that helps identify opportunistic investments and an underwriting discipline that uses the best available information on key factors affecting the long-term investment returns (i.e. markets, yields, growing costs, etc.). Land prices have generally risen globally, but pockets of opportunity remain for disciplined investors to source land under attractive arrangements for greenfield-developments (purchasing land and planting new timberland). This is especially true in emerging market regions where capital and technology are scarce. Similarly, there are attractive opportunities to invest in existing forestry assets where we see growing wood markets and the ability to grow trees better through deploying improved plant material, silvicultural management, and harvest optimization strategies.
Create value by enhancing tree growth rates and productivity: Biological growth provides a unique opportunity for reliable asset appreciation. Cutting-edge forestry management can increase yields by 1% to 3% per year, potentially creating 150 to 450 basis points of incremental gain for investors. Managers with a strong understanding and commitment to research and development for deploying the best available plant material and silvicultural management techniques have the best opportunity to maximize growth rates and yields.

Protect assets through sustainable land management:
Environmental stewardship has become a key component of forestland management, as governments all over the world seek higher standards of protection for natural resources. Sustainable practices can enhance performance over time by conserving key assets like land, water, trees and energy, and ensure that timberland remains productive and profitable for generations. In addition, sometimes there are opportunities to monetize these environmental assets if they have been well managed.

Conclusion: Growing Global Demand Requires Specialized Approaches to Timber Management
The historical case for timberland investment has evolved and timberland investors should carefully consider their manager’s strategy to determine whether or not they are poised to capture future growth in forest products markets. Demand for wood is growing globally and is forecast to expand at a higher rate in emerging market countries than in developed economies. This growing demand will be in both traditional forest products markets (lumber, veneer, wood-based panels, pulp & paper, etc) and in emergent bioenergy markets. Timberland managers have historically focused on growing softwood trees in the U.S., such as Douglas-fir on the west coast and Loblolly pine in the south to supply the residential construction market, which is where they have earned most of their income and returns since inception. But the U.S. housing market crash in 2007-2008—along with growing global demand for different types of wood—has demonstrated that timberland managers and their investors need improved diversification within timber portfolios to recapture the primary benefits of the asset class: income, high returns and low correlations.

Timberland Investing at TIAA-CREF
TIAA-CREF and its timberland manager GreenWood Resources develop investment strategies focused on key attributes needed to be successful in this changing timber investing world. We believe focusing on a globally-diversified approach for timberland investors and developing and maintaining professionals who can provide integrated management of these investments are keys for long-term success. We also see a world where resources are constrained and improved management techniques in growing trees better through improved plant material and silvicultural techniques will allow us to grow more wood on less land to help meet this growing global wood demand.

About GreenWood
GreenWood Resources (GWR), a majority-owned affiliate of TIAA, is one of the nation’s leading timberland investment organizations. GWR specializes in the development and management of investment opportunities in globally- diversified portfolios of intensively-managed forestry assets for investors. Recognized world-wide for its scientific leadership in forest genetics and forest management strategies, GWR focuses on growing trees, growing trees better and growing trees for growing markets. In addition, TIAA-CREF has been investing in timberland since 1998, building a strong track record for performance and risk management. GWR and TIAA’s timberland group also draws on the organization’s robust capabilities in real assets, with expertise in specialized investments like agricultural land, infrastructure and energy.

Together, TIAA and GWR own or manage timber investments totaling approximately $1.8 billion, with investments covering 840,000 acres around the world in North America, Latin America, South America, Central Europe, Asia and Oceania. The combination of TIAA and GWR’s experience and scale provides investors with a well-defined strategy for capitalizing on opportunities in the timber asset class, extensive market knowledge, local access through global operations, access to diverse opportunities, and institutional asset management approach that focuses on sustainability and transparency. n

Dr. Gwen Busby, Economist for GreenWood Resources, contributed to this article.

The material is for informational purposes only and should not be regarded as a recommendation or an offer to buy or sell any product or service to which this information may relate. Certain products and services may not be available to all entities or persons.

The TIAA timber investments noted above are not funded through any investment product nor do they contribute to the performance of any investment product. The sole funding source for these investments are assets in the TIAA General Account. The TIAA General Account is an insurance company and does not present an investment return, and is not available to investors.

TIAA-CREF Asset Management provides investment advice and portfolio management services to the TIAA-CREF group of companies through the following entities: Teachers Advisors, Inc., TIAA-CREF Investment Management, LLC, TIAA-CREF Alternatives Advisors, LLC, and Teachers Insurance and Annuity Association of America. Teachers Advisors, Inc., TIAA-CREF Investment Management, LLC, and TIAA-CREF Alternatives Advisors, LLC are registered investment advisers and wholly owned subsidiary of Teachers Insurance and Annuity Associations (TIAA). Timberland investments may be illiquid and subject to changes in regulations, environmental and climatic conditions, macroeconomic and currency fluctuations.

By Jose Minaya, Senior Managing Director, Head of TIAA-CREF’s Private Markets Asset Management and Jeff Nuss, President & Chief Executive Officer, GreenWood Resources

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