Recent stock market swings and discussions about the potential for another recession are making some investors increasingly nervous about their retirement plan assets. To enhance diversification, reduce volatility and improve risk-adjusted returns, global investment manager Nuveen is using direct real estate in its TIAA-CREF Lifecycle Funds target-date series.

Direct real estate refers to private investments in institutional-quality commercial property, such as office buildings, apartments, retail malls and industrial space.

Nuveen (the asset management arm of TIAA) is the only firm whose target-date mutual funds invest in direct real estate, according to John Cunniff, head of retirement investment portfolio management at Nuveen and the lead portfolio manager on the TIAA-CREF Lifecycle Funds.

TIAA Investments worked hard to secure regulatory approval for direct real estate investments in the target-date series and was granted permission because of its expertise in this asset class, he said. TH Real Estate, a Nuveen affiliate, has managed real estate investments for more than 80 years and is a global leader in this space. The Lifecycle Funds began investing in direct real estate in 2016 through the TH Real Estate Real Property Fund, which has $1.3 billion in assets and owns 26 properties, he said. Its distribution is limited to the target-date series.

“For investors, having that access and investment in commercial real estate, along with diversification of stocks and bonds, enhances their overall outcomes over the long run,” said Cunniff, and can also help in the short term. Although it won’t happen every year, he said, this year the TH real estate fund (which has generated income and modest capital gains) has been the Lifecycle Funds’ best performing fund.

Before adding direct real estate to the Lifecycle Funds, Cunniff and his team studied historic returns, did stress testing and ran Monte Carlo simulations. “We wanted to make sure we could manage these funds well in all market circumstances,” said Cunniff, who ran the funds through the credit crisis of 2008. During that period, stocks plunged 45 percent but commercial real estate funds sold off only three-quarters of that amount, at their worst, he said, “and they didn’t all fall at the same time.”

Physical Location Means Diversification

Cunniff pointed to a number of factors that make direct real estate attractive. It has low volatility and a low correlation to stocks and bonds; it’s a hybrid asset that provides income (through lease payments) and capital appreciation; it has outperformed most asset classes over the long run; and it’s a natural hedge against inflation.

In contrast, publicly traded REITs (issued by companies that own and manage pools of commercial real estate) are more correlated to stock market fluctuations and fell more than 50 percent in 2008, he said. Furthermore, “When you purchase a REIT fund within a target-date, you’re doubling up on your REIT position,” he said, “because your other managers—for example, your small-cap equity manager or your value manager—will be buying REITs within their universe.”

Nuveen research shows that a 5 percent allocation to direct real estate has improved risk-adjusted returns and retirement accumulations in most scenarios while reducing risk. Cunniff expects to reach this allocation target within the next few months. The Lifecycle series’ glide path starts at 95 percent equities and 5 percent direct real estate for investors in their 20s. Maintaining 5 percent in direct real estate, the allocations gradually shift to an equity-to-fixed income split of 45/50 at retirement and a 35/60 split when the investor is 10 years past retirement.

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