Public pension funds are one of the most important scaffolds of the commercial real estate market, with approximately $6 billion invested in real estate assets worldwide, and as business and investment models change over time, these institutions face growing uncertainties with growing implications. for CRE.

A volatile stock market, the retirement of the large baby boomer demographic, and even geopolitics have contributed to what is expected to be the biggest single-year drop in pension funding ratios since the Great Britain. Recession, according to a report by the Equable Institute.

Pension funds hold approximately $6,000,000 in commercial assets worldwide.

The gap between pension fund assets and the money they need to meet their obligations is estimated to be over $1,000,000 this year, and while experts say the funds are stable and meeting self-determined expectations in terms of returns, they predict that these funds will pour even more money into the real estate market to cover their shortfalls.

“There is more money invested in real estate today than a decade ago, partly because public pension funds are trying to achieve their returns and they know that public stocks and bonds are not are not the right way to do it,” said Equable Institute executive director Anthony Randazzo. “Because the funding gap persists, there’s more pension fund money flowing into real estate in general, to try to address the funding gap.”

The commercial real estate record of 2021, in which the volume of commercial property sales in the first three quarters of the year exceeded $462 billion, increase in property values to new heights and helped close the funding gap for pension funds as a group.

Unfunded liabilities of state and local pension plans were $933 billion in 2021 — down from $1.7 billion in 2020, according to the Report on the state of pensions 2022 by the Equable Institute. The decline was due to “a single year of exceptional investment returns,” according to Equable.

But in 2022, as delays in returning to the office have dampened the office market and rising interest rates and fears of recession have limited transaction volume, this trend is expected to reverse. Equable estimates that unfunded liabilities will reach $1.4 billion in 2022 “due to market underperformance.”

Pension funds can fill these gaps in a number of ways, including increasing contributions from members or the governments where they are located. But getting a government boost is usually an unpopular request and comes at the expense of other programs and services that people rely on.

Average annual state and local government contributions to their pensions have grown at a rate of 8% per year for a decade, said Greg Mennis, director of public pension systems at Pew Charitable Trusts.

These contributions were significant for the funds they strengthened, Mennis said, putting five funds that were in financial difficulty back into a more stable position, according to Pew’s measure. But they come at a cost.

“The flip side is that it took a bite out of government budgets and services were squeezed out,” Mennis said. “And so how do state and local governments navigate a very uncertain economy and if [they] can manage to bend the pension cost curve – I think these are the interesting questions to focus on going forward.

For example, in New York, five pension funds posted an 8.65% loss for the most recent fiscal year, Pensions and investments reported last month. The loss, which was the worst for the funds since the Great Recession, meant the public would be liable for contributions to the fund of $861 million in fiscal year 2024, $1.97 billion in 2025 and 3.02 billion in 2026 to support pensions, P&I reported.

Reserved area

1900 Aldrich St. in Mueller, Texas, outside of Austin, was recently purchased by the Teachers Retirement System of Texas.

Overall, state contributions to pension funds since 2010 have more than tripled, according to the Equable report, with states making up for continued funding shortfalls, but even with these larger contributions, the report’s authors say money from employees and employers has not been enough to compensate for the steady increase in benefits paid to retirees.

So pensions are increasingly turning to real estate, even though it can be seen as risky, Mennis said, because it diversifies portfolios and returns are generally higher than less risky investments.

Pension fund assets under management have nearly doubled in the past decade, from $30 billion in 2010 to $56 billion in 2020, said Donald Hall, Nuveen Real Estate’s head of research for the Americas. . Over the same period, pension funds have increased their real estate allocations by around 2%. Hall therefore estimates that pension fund capital in real estate globally is $6 billion, up from $3 billion a decade ago.

“What you get is actually a little more than a doubling of pension fund capital in the industry over the last decade,” Hall said.

Public pensions have an average 12.3% allocation to real estate, which is the highest allocation of any institution, according to the 2021 Real Estate Allocations Monitor from global capital advisory firm Hodes Weill in conjunction with Cornell University’s Baker Program in Real Estate.

The company is still conducting its next survey, but all signs point to a continued increase in target allocations to real estate, said Doug Weill, co-manager of Hodes Weill.

Over the past year, Indiana’s public retirement system has increased its allocation to real estate from 7% to 10%; the Texas Municipal Retirement System went from 10% to 12%; and the California State Teachers’ Retirement System, the second-largest pension fund in the United States, increased its allocations from 13.5% to 15%, Hall said.

Repo invests in all strategies, from core to value-added to opportunistic, Weill said, giving them “the broadest investment goals or set of goals of any institution.”

On a five-year average, real estate returned 8.4% for pension funds, according to Hodes Weill’s 2021 report. Real estate has been “a shining star” in institutional portfolios, Weill said.

“Asset class returns have changed over the past decade and real estate allocations by pension funds are continually increasing to help them achieve their required rates of return,” Nuveen’s Hall said.

But as the CRE market has changed, so have pension fund tastes in the real estate market. Continued uncertainty over offices has impacted how pension funds view the type of ownership. Many have also moved away from commercial properties.

Private real estate funds have 23% of their investments in offices, down from 34% in 2019, The Wall Street Journal reported, citing data from the National Association of Real Estate Investment Trustees. Their holdings of commercial space fell from 17% to 10% during this period, but investments in industrial real estate rose from 18% to 31% during the same period.

In an email to bisnowa CalSTRS spokesperson said the pension fund, which supports teachers across California, is “actively increasing its exposure to industrial, residential, and specialty product types, such as life science buildings,” announcing the shift to “changing consumer demand”. by e-commerce and a housing shortage.

“Institutional capital has gravitated towards industrial, multifamily – particularly Sun Belt multifamily – and alternatives for some time now, including life sciences, data centers, medical practices, residential and student housing,” said Kevin Newmark, co-head of U.S. capital markets. Shannon said.

In a July board presentation, Teachers Retirement Systems of Texas senior director of real estate Grant Walker told board members that before the pandemic, the pension fund had strategically begun to “overweight” industrial and residential sectors in its portfolio and “underweight” offices, retail and hotel.

“When the pandemic started, the impact of that really worked in our favor,” Walker said. The pension fund had also dabbled early in life sciences and studio real estate, which Walker said was relatively new to large institutional investors. But these also paid off, earning a 7.6% back in the first three months of the year.

The TRST bought an office building this year — a brand new property sold by Shorenstein where the pension fund will have its offices.

Property’s ability to generate returns when other investments are struggling has helped to strengthen its position in pension fund portfolios, but with fears of a recession and its impact on property markets still looming large , there could be more changes in the types of assets they are looking to invest in.

Despite the outsized performance in 2021, a number of factors have slowed repos on their real estate allocations over the past two months, Weill said, including market volatility and concerns about rising interest rates. and capitalization rates. He predicts that once market volatility subsides, perhaps in the fall, it will pass.

“At a time like now, even though mid- and long-term institutions are quite bullish on real estate and growing their portfolios, at the moment their sentiment is negative or at least cautious,” Weill said. . “The sentiment changes quite quickly.”


7 Things Elite Realtors Do That You Probably Don't


Rising interest rates have 'really stopped' real estate investors: broker

Check Also