10 REAL ESTATE’S EVOLUTION AS AN ASSET CLASS SPECIAL REAL ESTATE ISSUE 2009 T his is the fourth special real estate issue published by The Journal of Portfolio Management.Theworkof theauthorscontainedinthesepages coincides with historic,cataclysmic events in the financial markets. These scholars, to one degreeoranother,allgrapplewiththefactthat commercialrealestatewasravagedbythecredit crisis, along with virtually every other asset class.Severalofourcontributingauthorsalso notethatresidentialandcommercialrealestate may be closer cousins than many first thought—anideathatJPM’sfoundingeditor, thelatePeterBernstein,alsonotedinhisintro- ductiontothe2007issue. Like many students of finance, Peter Bernstein was fascinated by the evolution of real estate as an asset class.In introductions to the previous special real estate issues,he noted that real estate’s claim to asset class status was bolstered by the application of what he called “CapitalIdeas”fromthebroaderworldofinvest- menttheoryandportfoliomanagement.Inhis 2007 book Capital Ideas Evolving,Peter wrote: “Nothing more deeply divides us from the worldbefore1952thanthebelatedrecognition of risk as the dominant element in portfolio management.This delay in understanding the roleofriskunquestionablyexplainswhyprac- tical applications of Capital Ideas were so hard tofindfifteenortwentyyearsago”(p.237). Theevolutionofinvestmentanalysisfor commercialrealestateechoesthisobservation, with a lag factor that is, perhaps, one of the distinguishingfeaturesoftheassetclass.Many of the basic tools of portfolio management have now been applied to commercial real estate,butonlyinthelast10to15years.The concepts may be 30,40,or 50 years old,but institutionalrealestateinvestorshaveonlyjust beguntouse(andsometimesmisuse)thestan- dard techniques of the broader investment markets—diversification,capital market asset pricingmodels,internationalinvestinginboth developedmarketandemergingmarketstrate- gies,structured finance,securitization,deriv- atives, hedging, and risk management—to namebutafew.Diversificationstrategiesbased on naïve categories of geography and prop- erty type have been around for 20 years or more.Andmorerecently,diversificationstrate- gies based on risk–return style,investment structure,anddomestic/internationalarebeing implemented. Nevertheless,as has been observed in every other asset class, the use of these tools doesnoteliminateriskand,infact,mayexpose investors to new,less-well-understood risks. Moreover,our understanding of the funda- mentalwaysthatthefinancialmarketswork— startingwiththebuildingblocksoftheefficient markethypothesis(EMH)andthecapitalasset pricingmodel(CAPM)throughtothemore recent critique of EMH from the school of behavioralfinance—willcontinuetobeunder constant revision.The collapse of the credit RealEstate’sEvolution asanAssetClass JIM CLAYTON,S.MICHAEL GILIBERTO,JACQUES GORDON, SUSAN HUDSON-WILSON,FRANK J.F ABOZZI, AND YOUGUO LIANG JIM CLAYTON isavicepresidentof researchatCornerstone RealEstateAdvisersLLC inHartford,CT. jclayton@cornerstoneadvisers.com S.MICHAEL GILIBERTO isamanagingdirector atJPMorganAssetManage- mentinNewYork,NY. michael.giliberto@jpmorgan.com JACQUES GORDON istheglobalinvestment strategistatLaSalleInvest- ment Management in Chicago,IL. jacques.gordon@lasalle.com SUSAN HUDSON-WILSON isanadvisoratHawkeye Partners,LLC,inAustin,TX. hudwil@gmail.com FRANK J.FABOZZI isaprofessorinthepractice offinanceatYaleSchoolof Management in New Haven,CT. frank.fabozzi@yale.edu YOUGUO LIANG isamanagingdirectorand globalheadofresearchat Prudential Real Estate InvestorsinParsippany,NJ. youguo.liang@prudential.com