Residential Real Estate in a Mixed-Asset Portfolio

Abstract

Mixed-asset portfolio optimization consists in determining the best allocation among
standard financial assets such as money market accounts, bonds, stocks and real
estate asset as well. For this latter kind of asset, computing the optimal weight can
be challenging. First, there is the need to specify the kind of real estate included in the
portfolio (commercial, industrial, residential, direct, REIT shares). Second, the prices
used to calibrate real estate values need to be chosen from alternatives like: appraisal
values, actual real estate transactions, repeated sales, indices. In this paper we focus
on private residential real estate returns, investigating the optimal weight of the
real asset with respect to standard financial assets. Using quarterly data on housing
indices for four European countries, France, Germany, UK and Spain, we address the
question of how investing in housing affects the composition of an investor’s portfolio. We show in particular under which conditions we recover the typical 15%-20%
real asset allocation.