“Wide diversification is only required when investors do not understand what they are doing."
As institutional real estate platforms - both private and public - scale up, portfolio managers begin making investment decisions consistent with diversification goals. While small funds generally ignore concentration risk since there’s not much they can do to diversify, larger platforms face critical questions about product type diversification, geographic diversification and tenant diversification. What they prioritize and the decisions they make have significant impacts on returns.
Is there a right approach? Do you think we’d be writing this if there wasn’t? Research is here to help from Professor Chacon at the University of Denver.1 The question: Which diversification lever matters most for REIT returns? Product type, geography or tenant base? The answer: Tenant diversification. Studying REIT returns and using “horse-race” analytical techniques, when it comes to a REIT’s profitability, operating efficiency, risk, and the cost of debt, “tenant mix is the most critical dimension of portfolio concentration.”
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