Our Global Capital Outlook is JLL’s view on the key trends that will impact global investment markets and the strategies that will be most important for real estate investors in 2024 and beyond.
Appeal of real estate well positioned to mitigate prolonged effects of current allocation pressures
In the decade after the Global Financial Crisis (GFC), fixed income allocations declined. Commercial real estate was one of the beneficiaries as a recipient of those outflows.
But the current interest rate hike cycle has increased the attractiveness of fixed-income strategies again, with institutional investors shifting their portfolio allocations towards government bonds, investment grade credit, high-yield corporate credit and private credit.
As examples: For allocations by sovereign wealth funds and private capital investors, fixed-income allocations have risen, while real estate, private equity and hedge fund allocations declined in 2023.
However, considering an institutional investor’s investment horizon and the nature of higher bond yields, being overweight to fixed income is a short-term strategy.
Even if a higher inflation or interest-rate era extends beyond 2025, real estate is better placed to offer inflation protection relative to bond investments due to its steady, stable income streams and mid- to long-term return outperformance.
Uncertainty in numerator and denominator pressures for allocations is beginning to abate
With that said, the slower repricing of real estate in comparison to equities and fixed income has triggered denominator-effect concerns for many institutional investors since 2022, introducing new challenges to deployment and future target allocations. Based on a recent survey by Cornell University, 40% of institutional investors’ allocations to real estate exceeded targets in 2023, up from 32% in 2022 and just 8.7% in 2021.
However, early signs that both denominator and numerator pressures are abating have emerged. The rebound in public equities combined with write-downs on private real estate portfolios are bringing portfolios back into balance, strengthening arguments for a ‘wait and see’ approach. And in PERE’s LP Perspectives 2023 Study, 52% respondents said they are content to stay over-allocated to real estate, while 19% said they will wait for the market to correct before assessing their exposure to the asset class.
There are indeed some institutional investors that have rebalanced portfolios to divert distributions from existing real estate funds to other funds and asset classes, especially with the consensus for higher-for-longer rates. However, investors convinced of the long-term merits of real estate have been maintaining or increasing their target allocations.
Singapore’s GIC has, for example, continued to increase its allocation to real estate – up to 13% in 2023 from 10% in 2022 and from 8% in 2021. Similarly, South Korea’s NPS is increasing its target allocation to alternatives (across real estate, private equity and hedge funds) from 13.8% (2023) to 15% (2027). Where there are increased redemption queues, it primarily reflects a rebalancing of real estate exposure away from select funds or strategies, not necessarily an exit from a given fund, nor from real estate as an asset class altogether.
Diversification and return profile support long-term attractiveness of real estate asset class
Despite pressures in today's market, the long-standing merits of commercial real estate investments remain largely intact. From a 10-year return perspective, commercial real estate has consistently proven its value and stacked up well against other asset classes. Real estate, in particular private real estate investment, offers lower volatility and lower correlation to other asset classes, with an income profile more stable and offering diversification benefits.
These characteristics have allowed institutional capital to leverage real estate in portfolios to create stability. Commercial property investments have transitioned from merely enhancing portfolio returns to offering a combination of diversification, return enhancement and risk protection – supporting the longer-term attractiveness to capital.
The growth and maturation of capital in commercial real estate are leading to better and broader risk-adjusted opportunities while offering more strategies across the risk spectrum – such as, but not limited to, recapitalizations, secondaries, joint ventures or ownerships stakes with operators and the growth of alternative strategies.
In the current market, liquidity provided by real estate secondaries funds has introduced options for general partners (GPs) to recapitalize, rather than sell, investments. More sophisticated global and regional institutional investors have also become more active in co-investments and joint ventures, partnering more directly with operators and investment managers to expand capital deployment, visibility, control and higher return potential.
For these reasons, in our view, while the higher rate environment has influenced real estate’s attractiveness to institutional investors today, strategic asset allocation targets into real estate, especially in the long run, are expected to remain stable and, for many, trend higher.
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