Vince Childers, CFA
Head of Real Assets Multi-StrategyMore by this author
15 minute read
Liquid real assets—including real estate, infrastructure, natural resource equities and commodities—may be a particularly compelling allocation in today’s inflationary environment, offering diversification potential, historically competitive returns and valuations near multi-decade lows.
- Outperformance in inflationary periods
Real assets’ positive inflation sensitivity can protect against the potentially damaging effects of accelerating inflation on a portfolio concentrated in stocks and bonds.
- Diversification potential
Distinct performance drivers generally result in differentiated behaviors from broad equities and fixed income.
- Historically strong returns with less volatility
Real assets may improve risk-adjusted portfolio returns without sacrificing the potential for equity-like returns over time.
- Priced at attractive relative discounts
Valuations relative to equities—even after real assets’ strong returns since 2021—remain compelling.
1. Outperformance in inflationary periods
Inflation—and, more importantly, inflation surprises—climbed to a 40- year high at the end of 2021, driven by global supply chain issues. This environment has persisted, amplified by unexpectedly strong wage inflation and further commodity supply shocks stemming from the war in Ukraine and subsequent economic sanctions leveled against Russia.
The one factor common to all real assets is their positive sensitivity to inflation surprises. The reason for this is simple: inflation often affects both asset prices and revenues of real assets, either directly through contractual inflation linkages or indirectly through fundamental economic drivers. This ability of real assets to counter inflation offers potential benefits to portfolios both in the short term, as prices climb, and in the longer term, should inflation rates continue to surprise to the upside.
The result of these inflation relationships has historically been strong returns in environments of rising and unexpected inflation, whether looking at individual real assets categories or a diversified real assets blend (Exhibit 1).
Real assets have historically outperformed in inflationary environments
Average annual real returns in periods of rising and unexpected inflation
June 1991–March 2022
At March 31, 2022. Source: Barclays, Bloomberg, Dow Jones, FTSE, S&P, Refinitiv Datastream, Cohen & Steers.
Past performance is no guarantee of future results. Inflation measured as the year-over-year change in the Consumer Price Index for all urban consumers, published by the U.S. Bureau of Labor Statistics. Rising inflation is measured as a positive year-over-year increase in the 12-month inflation rate. Unexpected inflation measured as a positive difference between the year-over-year realized inflation rate and lagged 1-year-ahead expected inflation, as measured by the University of Michigan survey of 1-year-ahead inflation expectations. The real assets blend is not representative of an actual portfolio and is for illustrative purposes only. The information presented above does not reflect the performance of any fund or other account managed or serviced by Cohen & Steers, and there is no guarantee that investors will experience the type of performance reflected above. See end notes for index associations, definitions and additional disclosures.
2. Diversification potential
The goal of portfolio diversification is to own asset classes that tend to experience their above- and below-average returns in different economic and market environments—when one asset zigs, the expectation is that another will zag. Real assets’ distinct economic sensitivities tend to differentiate them from traditional risk assets such as stocks and bonds.
The historical benefits of these differentiated economic drivers can be seen in real assets’ “beta,” i.e., their sensitivity to the broad global equity market (Exhibit 2). A beta of more than 1 indicates that the asset class (over the timeframe being analyzed) exhibits more volatility than the broad equity market. A beta of less than 1 indicates that the asset class tends to behave differently or be less volatile than the market. In this case, the low market beta of real assets suggests significant diversification potential, which may help to reduce portfolio volatility—and, we believe, improve risk-adjusted returns.
Low market beta suggests significant diversification potential
At March 31, 2022. Source: Barclays, Bloomberg, Dow Jones, FTSE, S&P, Refinitiv Datastream and Cohen & Steers.
Past performance is no guarantee of future results. The information presented above does not reflect the performance of any fund or other account managed or serviced by Cohen & Steers. There is no guarantee that any historical trend illustrated above will be repeated in the future, and there is no way to predict precisely when such a trend will begin. Beta measures the relative volatility of an investment as compared to a standard market index. A market index will always be equal to 1.00. An investment with a higher/lower Beta, more/less than 1.00, is more/less volatile than the market index. See end notes for index associations, definitions and additional disclosures.
3. Historically strong returns with less volatility
Real assets have historically generated strong returns over full market cycles, with all but commodities delivering performance in line with or better than global stocks over the past 30 years (Exhibit 3). The long-term average for commodities was depressed by a decade-long bear market from 2008 to 2018, driven by the perfect-storm anomaly of (1) China’s orchestrated downshift in demand, (2) significant technological advances in oil and gas drilling, and (3) a decade of low interest rates and cheap access to capital— all of which drove a prolonged commodity oversupply cycle. However, commodities have since experienced substantial improvements in supply/ demand fundamentals, including strong global post-Covid reopening demand, tight inventories and a more supportive macroeconomic backdrop, providing potential catalysts for a sustained multi-year recovery.
The results below also demonstrate the potential benefits of combining multiple real assets within a single portfolio. Individual real assets categories can be quite volatile. However, combined into one strategy, a diversified real assets blend has historically delivered competitive returns with significantly less volatility than global stocks, capitalizing on diversification benefits available within and among the different categories.
Real assets may improve risk- adjusted performance
Annualized nominal returns and risk
June 1991–March 2022
At March 31, 2022. Source: Barclays, Bloomberg, Dow Jones, FTSE, S&P, Refinitiv Datastream, Cohen & Steers.
Past performance is no guarantee of future results. Return reflects compound annualized return. Risk reflects annualized standard deviation of monthly returns. Standard deviation, also known as historical volatility, is a measure of the dispersion of a set of data from its mean and is used by investors as a gauge for the amount of expected volatility. Sharpe ratio is a measure of risk-adjusted return, calculated by subtracting the risk-free rate from a return and dividing that result by the standard deviation. The higher the Sharpe ratio, the higher the risk-adjusted return. The information presented above does not reflect the performance of any fund or other account managed or serviced by Cohen & Steers, and there is no guarantee that investors will experience the type of performance reflected above. See end notes for index associations, definitions and additional disclosures.
4. Priced at attractive relative discounts
The 2010s were characterized by repeated and unprecedented disinflation surprises, which weighed on real assets returns even as the broad equities market climbed ever higher. This has resulted in historically attractive real assets valuations relative to equities—even after the group’s strong returns since 2021 (Exhibit 4).
We believe today’s low relative prices are just one reason why the recovery in real assets may still have a long runway. Catalysts for a multi-year period of outperformance include:
- Supply shortages across labor, product and commodity markets continue to impact inflation dynamics, with supply-side discipline in commodities production expected to persist.
- The combination of elevated public spending, peak globalization and the “war on inequality” may sustain higher inflation over the coming decade, potentially weighing on stock and bond returns.
- Central banks are likely to tighten financial conditions into slowing economic growth. Real assets typically outperform traditional stocks and bonds during “stagflationary” periods of lower-than-expected growth and higher-than-expected inflation.
Most real assets are trading near 20-year lows relative to stocks
Valuations vs. global equities
January 2000–March 2022
At March 31, 2022. Source: Bloomberg, S&P Xpressfeed, Cohen & Steers proprietary analysis.
Past performance is no guarantee of future results. Valuation scores represent composites of various metrics: global equities/infrastructure/ resource equities: cashflow-to-price, dividend yield and book-to-price; real estate: FFO-to-price, dividend yield and book-to-price; commodities: weighted real spot price. Real estate, infrastructure and resource equities based on proprietary Cohen & Steers data for respective stock universes, constructed from the S&P Global Xpressfeed database. Global equities represented by Datastream World Index. Commodities represented by Bloomberg Commodity Index. The information presented above does not reflect the performance of any fund or other account managed or serviced by Cohen & Steers, and there is no guarantee that investors will experience the type of performance reflected above. There is no guarantee that any historical trend illustrated above will be repeated in the future, and there is no way to predict precisely when such a trend might begin. See end notes for index definitions and additional disclosures.
Benefits of the blend
Individually, real assets have merit; together, in a diversified framework, a strategic allocation in real assets can offer tremendous utility to investors who are concentrated in traditional equities and fixed income (Exhibit 5).
History shows that including real assets in a portfolio may provide key benefits, including the potential for:
- Inflation sensitivity
- Greater portfolio diversification
- Attractive risk-adjusted returns over full market cycles
Moreover, real assets currently trade at attractive valuations relative to equities. We believe this combination of potential inflation benefits, diversification and relative value represents a compelling opportunity to realign portfolios to take advantage of what real assets can offer.
Real assets’ characteristics
At March 31, 2022. Based on Cohen & Steers analysis and expectations.
There is no guarantee that any historical trend illustrated above will be repeated in the future, and there is no way to predict precisely when such a trend will begin. See end notes for index associations, definitions and additional disclosures.
Our approach to designing a multi-strategy portfolio
Although every investor’s needs are different and there are many ways to make an allocation to listed real assets, Cohen & Steers offers a multi-strategy solution that we believe may effectively address the three objectives of inflation protection, diversification and long-term return potential.
Our unique approach is grounded in active management. Bottom-up fundamental analysis is combined with dynamic top-down asset allocation to further enhance potential returns. Risk management is an ever-present part of the equation, and we generally seek exposure to additional diversifiers (e.g., smaller allocations to gold and short-duration fixed income) to help further manage portfolio risk over time.
This approach allows investors to implement a well-diversified allocation to real assets through a single holding, managed by specialists with a deep understanding of the asset classes.
Defending against sustained inflation with real assets
We believe markets have transitioned to a new regime of slow growth and elevated inflationary risks. It’s an environment we believe warrants diversification and inflation mitigation. And it’s precisely the role that we feel real assets can fulfill. Watch why we think we are in a period of secular stagflation and what role real assets can play.
Recession or not, growth is slowing: Our macro team’s view
Our base case calls for a shallow recession as inflation peaks and central bank policies take hold. Here’s how we’re positioned across key strategies.
Real assets: The benefits of the blend
Investor approaches to employing real assets within their portfolio will vary. Whether looking to invest in individual asset classes or a multi-strategy blend, portfolio specialist
Index definitions / important disclosures
An investor cannot invest directly in an index and index performance does not reflect the deduction of any fees, expenses or taxes. Index comparisons have limitations as volatility and other characteristics may differ from a particular investment.
Data quoted represents past performance, which is no guarantee of future results. There is no guarantee that any historical trend illustrated/referenced above will be repeated in the future, and there is no way to predict precisely when such a trend might begin. There is no guarantee that any market forecast set forth in this commentary will be realized. The views and opinions in the preceding commentary are as of the date of publication and are subject to change. This material represents an assessment of the market environment at a specific point in time and should not be relied upon as investment advice, does not constitute a recommendation to buy or sell a security or other investment and is not intended to predict or depict performance of any investment. This material is not being provided in a fiduciary capacity and is not intended to recommend any investment policy or investment strategy or take into account the specific objectives or circumstances of any investor. We consider the information in this presentation to be accurate, but we do not represent that it is complete or should be relied upon as the sole source of appropriateness for investment. Please consult with your investment, tax or legal professional regarding your individual circumstances prior to investing. The views and opinions expressed are not necessarily those of any broker/dealer or its affiliates. Nothing discussed or suggested should be construed as permission to supersede or circumvent any broker/dealer policies, procedures, rules or guidelines.
Real assets blend: 27.5% real estate, 27.5% commodities, 15% infrastructure, 15% resource equities, 10% short-duration fixed income and 5% gold. Real estate: Datastream Developed Real Estate Index through 2/28/05; FTSE EPRA Nareit Developed Index thereafter. The Datastream Developed Real Estate Index encompasses listed real estate companies in developed markets and is compiled by Refinitiv Datastream. The FTSE EPRA Nareit Developed Index is an unmanaged market- weighted total return index which consists of many companies from developed markets that derive more than half of their revenue from property-related activities. Commodities: S&P GSCI Index through 7/31/98; Bloomberg Commodity Total Return Index thereafter. The S&P GSCI Index is a composite of commodity sector returns representing an unleveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities, calculated on a fully collateralized basis with full reinvestment. The Bloomberg Commodity Total Return Index, formerly known as the Dow Jones-UBS Commodity Index, is a broadly diversified index that tracks the commodity markets through exchange-traded futures on physical commodities, which are weighted to account for economic significance and market liquidity. Infrastructure: 50/30/20 blend of Datastream World Gas, Water & Multi-Utilities, Datastream World Pipelines and Datastream World Railroads through 7/31/08; Dow Jones Brookfield Global Infrastructure Index thereafter. The Datastream World Index Series encompasses global indexes of companies in their respective sectors (Gas, Water & Multi-Utilities; Pipelines; and Railroads) and is compiled by Refinitiv Datastream. The Dow Jones Brookfield Global Infrastructure Index is a float-adjusted market-capitalization-weighted index that measures performance of globally domiciled companies that derive more than 70% of their cash flows from infrastructure lines of business. Resource equities: 50/50 Blend of Datastream World Oil & Gas and Datastream World Basic Materials through 5/31/08; S&P Global Natural Resources Index thereafter. The Datastream World Index Series encompasses global indexes of companies in their respective sectors (Datastream World Oil & Gas and Datastream World Basic Materials) compiled by Refinitiv Datastream. The S&P Global Natural Resources Index includes 90 of the largest publicly traded companies in natural resources and commodities businesses that meet specific investability requirements, offering investors diversified, liquid and investable equity exposure across three primary commodity-related sectors: Agribusiness, Energy and Metals & Mining. Short-duration fixed income: The ICE BofA 1–3 Year U.S. Corporate Index tracks the performance of USD-denominated investment-grade corporate debt publicly issued in the U.S. domestic market with a remaining term to maturity of less than 3 years. Gold: Gold spot price in USD per Troy ounce. Global stocks: MSCI World Index, a market-capitalization-weighted index consisting of a wide selection of stocks traded in 24 developed markets. U.S. bonds: The ICE BofA U.S. Treasury 7-10 Year Bond Index measures the performance of public obligations of the U.S. Treasury that have a remaining maturity of greater than 7 years and less than or equal to 10 years.
Real assets risks: A real assets strategy is subject to the risk that its asset allocations may not achieve the desired risk-return characteristic, underperform other similar investment strategies or cause an investor to lose money. The risks of investing in REITs are similar to those associated with direct investments in real estate securities. Property values may fall due to increasing vacancies, declining rents resulting from economic, legal, tax, political or technological developments, lack of liquidity, limited diversification and sensitivity to certain economic factors such as interest rate changes and market recessions. An investment in commodity-linked derivative instruments may be subject to greater volatility than investments in traditional securities, particularly if the instruments involve leverage. The value of commodity-linked derivative instruments may be affected by changes in overall market movements, commodity index volatility, changes in interest rates, or factors affecting a particular industry or commodity, such as drought, floods, weather, livestock disease, embargoes, tariffs and international economic, political and regulatory developments. The use of derivatives presents risks different from, and possibly greater than, the risks associated with investing directly in traditional securities. Among the risks presented are market risk, credit risk, counterparty risk, leverage risk and liquidity risk. The use of derivatives can lead to losses because of adverse movements in the price or value of the underlying asset, index or rate, which may be magnified by certain features of the derivatives. The market value of securities of natural resource companies may be affected by numerous factors, including events occurring in nature, inflationary pressures and international politics. Global infrastructure securities may be subject to regulation by various governmental authorities, rates charged to customers, operational or other mishaps, tariffs and changes in tax laws, regulatory policies and accounting standards. Foreign securities involve special risks, including currency fluctuation and lower liquidity. Because the strategy invests significantly in natural resource companies, there is the risk that the strategy will perform poorly during a downturn in the natural resource sector. The Fund must meet certain diversification requirements under the U.S. tax laws. No representation or warranty is made as to the efficacy of any particular strategy or fund or the actual returns that may be achieved.
Futures Trading Is Volatile, Highly Leveraged and May Be Illiquid. Investments in commodity futures contracts and options on commodity futures contracts have a high degree of price variability and are subject to rapid and substantial price changes. Such investments could incur significant losses. There can be no assurance that the options strategy will be successful. The use of options on commodity futures contracts is to enhance risk-adjusted total returns. The use of options, however, may not provide any, or only partial, protection for market declines. The return performance of the commodity futures contracts may not parallel the performance of the commodities or indexes that serve as the basis for the options it buys or sells; this basis risk may reduce overall returns.
Cohen & Steers Capital Management, Inc. (Cohen & Steers) is a registered investment advisory firm that provides investment management services to corporate retirement, public and union retirement plans, endowments, foundations and mutual funds.