From a small northwestern observatory…

Finance and economics generally focused on real estate

Posts Tagged ‘CalPERS

Sustainability — Follow the Money

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Sustainability seems to be the real estate buzz word du jour.  A “google” of “sustainable real estate” brings me slightly over 56 million hits.  Number two on the list is the Journal of Sustainable Real Estate, (a more-or-less joint presentation of the American Real Estate Society and CoStar) of which I’m apparently on the editorial committee.  Go figure.

I don’t want to sound too cynical here, but as a “finance guy” in the real estate field, I tend to follow the money.  A lot of what’s going on in real estate, particularly at the individual building-level, has a lot to do with sustainable energy (e.g. — LEED Certification, Energy Star) or sustainable architecture.  There was a nice paper out of Clemson University by David Heuber and Elaine Worzala recently on sustainable golf course development (click here for a link) which begins with the irony that no one is building golf courses today.  Scott Muldavin has a great book on underwriting and evaluation sustainable financing (reviewed here) which gets close to the heart of the matter.

However, Ben Johnson, writing for the current issue of Real Estate Forum, seems to have caught the scent, to use a hunting dog analogy.  In his article, “When CalPERS Talks, People Listen”, he notes that this mega-pension fund n($228 billion) has about 8% of its total invested in real estate.  (My own estimate is a bit higher and more current than that — see here for details.) The noteworthy thing, however, is that CalPERS just made a $100 million stake in Bentall Kennedy outt of Toronto.  B-K is one of North America’s largest real estate investment advisors, resulting from the 2010 merger of the Canadian firm Bentall with Seattle’s own Kennedy Associates.

Two things make this all very interesting.  First, B-K earned the top spot this year on the Global Real Estate Sustainability Benchmark Foundation’s ranking of fund managers in the Americas.  This ranking, covering 340 of the world’s largest funds, measures social and environmental performance.  (Given B-K’s Pacific Northwest and Canadian pedegrees, this doesn’t surprise me at all.)

Second — and this may be the biggie — as CalPERS goes, so goes the industry.  The focus of Mr. Johnson’s article was to note that now every pension fund in the known universe will need to consider using an advisor like B-K.  Johnson notes that this deal “gives the largest public institutional player in the US a deeper investment in understanding real estate as an asset class and a unique insider’s view of the industry’s dynamics.”  More interestingly, I would posit, it puts a leader in sustainable real estate front-and-center in the view of the sorts of pension managers who, until now, have very little cross-pollination with the real estate industry.  In short, as institutions look to find good real estate partners, sustainability will be a key element of consideration.

Real Estate Portfolio Choices

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Thanks to my friends at for bringing this to my attention.  It’s a fascinating story about how two funds can make subtly different choices about real estate investments and end up in two different places.

The two funds are CalPERS and CalSTRS, two of the largest pension funds in America.  For those of you not familiar with them, CalPERS is the California Public Employees Retirement System, and CalSTRS is the separate California teachers system.  As of March 31, 2012, CalPERS had $237.6 Billion under management, with $21.8 Billion (9.2%) of that in real estate.  As of May 31, 2012, (they have slightly different reporting dates) CalSTRS had $146.8 Billion under management, with $21.2 Billion (14.5%) in real estate.

Ironically, both pension funds underperformed their own targets for the year ending June 30, and yet for both of them, real estate was their best performing asset class.  Both funds have put emphasis on core, income-producing properties.  CalSTRS, however, despite having a fairly good real estate year (9.2% overall return), underperformed their real estate benchmark (the NCREIF Property Index) by a full 4.2 percentage points.  Notably, CalSTRS had a much higher return in the 2010-2011 period, enjoying a 17.5% overall real estate return.

CalPERS, on the other hand, enjoyed a 15.9% return, outperforming their goals by 3 percentage points.  This represents a much higher return than 2010-2011, when they marked a 10.2% gain, and very much a rebound from their disasterous 37.1% loss in 2009-2010.

Notably, neither fund did poorly this year — there is nothing about CalSTRS 9.2% overall return to scoff at.   But, why does CalPERS continue to trend upward while CalSTRS is underperforming?  Is there something key to this difference that we should be noting and learning?

Intriguingly, CalPERS devotes more of its attention to core properties — currently at 70% with a goal of 75%.  CalSTRS, on the other hand, is evenly split between core and opportunistic.  Also, CalPERS is underallocated to real estate and is in a position to make significant core investments, while CalSTRS is overallocated, and is trying to get from 14.5% down to 12% by selling existing opportunistic holdings, likely at a loss.  Additionally, CalPERS was aggressive in taking write-downs during the painful 2009-2010 season, but CalSTRS was not, and is thus still feeling the pain.

Finally, CalPERS was quick to move into core assets after the global financial crisis, allowing it to buy quality assets at bargain-basement prices.  CalSTRS was not so quick to move, and thus waited until cap rates compressed.

Lessons to be learned?  Obviously, in hindsight, cleaning up the messy books and moving forward was a smart thing for CalPERS to do.  It gave them the freedom to move forward and take advantage of opportunities.  Looking forward, there is clearly a sense that allocation is key.

However, the bigger picture is that two of the nation’s largest investment funds have a major committment to real estate, aiming for 10% and 12% allocations respectively.  The fund that is in the accumulation side (growing from 9% up to 10%) is the one making the most money, because it can take advantage of buying opportunities in core assets.  The fund that is selling is the underperformer, albeit probably for reasons other than just capital losses on sales.

Written by johnkilpatrick

July 23, 2012 at 8:17 am

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