Diversifying DC Plans with REITs

Institutional investors would benefit from adding "real assets," including REITs, to their defined contribution (DC) savings plans to reach their retirement goals, according to recent research from Russell Investments.

While traditional DC portfolios primarily consist of financial assets such as stocks and bonds, Josh Cohen and Mark Teborek, defined contribution analysts with Russell Investments who co-authored the paper, say stocks are expected to increase in volatility and generate lower returns in the future.

Cohen spoke with REIT.com about his research and DC plan sponsors' need to move beyond the practice of diversifying holdings within traditional asset classes.

REIT.com: What are some of the reasons for including real assets within DC plans? And of those, what would you say would be the primary reason?

Josh Cohen: We have three reasons, but would say the primary reason would be diversification. Participants today have a significant weighting to just financial assets, and they need diversification of real assets. In addition to that, we think real assets have a pretty good return potential, given some of the secular trends going on in the world, so, at a very minimum, something that at least can be similar to what they would get with traditional equities, which would be replaced.

And, finally, just the relationship to inflation. These tend to be assets that, while we're careful to not say that they are correlated, there's obviously a relationship with some of these real assets. Those reasons are all particularly true for DC participants, who need positive and consistent real returns over a long term. Diversification, inflation relationship and secular return potential are all things that will help them achieve positive returns over time.

REIT.com: Russell's real assets strategy includes healthy allocations to asset classes such as commodities, listed real estate, listed infrastructure and treasury-inflation protected securities (TIPS). What is the rationale for these particular classes?

Cohen: Because it's a DC plan, we wanted to at least start with asset classes where there is both daily valuation and liquidity, but also quality institutional managers. We believe at some point unlisted securities and asset classes will find their way on to DC platforms.

REIT.com: Russell's recommended real asset model allocation features an allocation of 22.5 percent to listed real estate. From the firm's perspective, what investment attributes of listed real estate are important to DC participants?

Cohen: It possesses the three main factors that we like: diversification, inflation relationship and the return potential. We find that it's under-represented in traditional portfolios.

REIT.com: Why do you think some investment managers underweight certain types of equities, such as infrastructure and REITs?

Cohen: I think there are fundamentally different types of companies and different valuations. It takes a different skill set that a lot of active managers aren't comfortable with, so it really is one of these kinds of areas that need special analysts and managers.

REIT.com: If there is one thing you would like plan sponsors to take from your paper, what would it be?

Cohen: I think that participants need diversification. They need really to incorporate the best ideas that institutional investors, such as defined benefit plans and endowments of foundations, have learned a long time ago, which is that you need to move beyond the traditional assets of stocks and bonds. Real assets is one of those areas where there is the ability to add that in responsible ways to DC plans today, so we think it's really worth pursuing.