The Double Four-Quadrant Approach: The Systematic Integration of Real Estate Investment in the Overall Investment Universe

The increasing diffusion of the 4-quadrant approach (private equity, public equity, private debt, public debt) in the real estate investment opens up new questions to the theory and practise of asset allocation. Within the common top-down approach of asset allocation the question whether quoted real estate companies are to be regarded as a real estate investment or as a ìsector playî within the stock allocation is especially controversially discussed. From a traditional Finance perspective, real estate stocks are often assigned to stocks as a result of relatively high correlation with stocks and (superficially) low correlation with direct real estate investment. As a result of a fundamental economic analysis this approach is questionable. Apart from some real-economic differences (leverage, tax, etc.), which can be isolated, the underlying assets are the same within the same market segment. Due to this fact, arbitrage possibilities led to the convergence of pricing between the different quadrants. The traditional approach of asset allocation, based on Modern Portfolio Theory, has severe limitations due to difficulties in measuring risks and correlations of direct real estate investment. Therefore, I will argue in my paper that for investors with a long time horizon, the asset allocation should start with a basis decision in which degree an investment in real estate is favourable for the overall portfolio. This decision should be based primarily on economic fundamentals. Subsequently, the allocation within the 4 quadrants can be done on a second level, separately for real estate and business case (double 4-quadrant approach).