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Attribution analysis

Performance measurement services for property investors have now reached a high level of sophistication. The intrinsically complex character of property as an asset requires detailed recording of the physical description and financial flows to each individual holding - since each holding is unique. Once full descriptions of the type, age, and location of each property have been linked to their valuations and income flows as they have developed over time, the role played by each asset in the overall return generated by the portfolio can start to be determined.
As for multi-asset portfolios, attribution analysis plays a crucial part in analysing performance within the property asset class. The technique dissects the performance of the portfolio (stated in relative terms against a market benchmark) into structural and stock selection elements: in this way the influences of portfolio strategy on one hand, and individual property quality and management on the other, may be quantified and better understood. Ultimately the investment manager should be able improve performance through a stronger understanding of the portfolio’s underlying return characteristics.
The structural element of attribution’s statistical output should show the effect of strategic decisions which have been taken to invest in the various available property types existing in a particular investment market. The typology used should reflect investors’ perceptions of the way in which the property market is segmented - typically relating to both use and location. Investment property uses are generally defined in terms of sectors - retail, office, industrial, and, especially in continental Europe, residential - while locations depend very much on economic geography. Centralised economies like the UK, France and Belgium will require substantial disaggregation within their political and business centres; this is less relevant for less centralised investment markets such as Germany or the Netherlands. Ideally market segmentations will reflect not only investor strategies but also real variations in performance - though these can only be confirmed retrospectively. The aim of attribution is to maximise heterogeneity between segments, while minimising heterogeneity of performance of the individual assets within segments.
Over the medium term structural influences may play a significant role in determining property portfolio performance. In the Netherlands, for example, residential property significantly outperformed both retails and offices from 1995 to 1997 - though in 1998 offices moved into the ascendancy. Implemented over time attribution analysis will identify the key timing issues in portfolio strategy.
The stock selection element of the attribution output identifies the impact of the performance of assets in specific segments of a portfolio compared to the market return benchmarks for those segments. Selection or ‘property’ scores measure the impacts of individual properties on the portfolio’s relative return, with the structural element stripped out. Sources of strength and weakness can thus be traced to relevant segments of the portfolio - allowing investigation in greater depth where appropriate.
Substantial positive or negative property component scores will suggest a number of possible directions of enquiry: the capital and income elements in segment relative performance should first be identified. Extreme levels of capital growth will be traceable to changes in the market rents and capitalisation rates determining the level of valuation. These in turn may result from qualitative aspects of those properties within their market segments, or possibly the interpretation of the valuer. High or low income returns will be dependent on the gross yield from the properties held, the degree of vacancy, and the level of operating costs incurred; with sufficiently detailed data inputs all of these aspects of performance will be identifiable.
Tim Horsey is with Investment Property Databank in London

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