Diversification Benefits from Foreign Real Estate Investments Harvard Case Solution & Analysis

Diversification Benefits from Foreign Real Estate Investments  Case Solution

A Brief Introduction

The paper is about verification and analysis of benefits that can be achieved by an American investor, if he preferred foreign real estate investment instead of either American or foreign stocks. The study extends to the identification of real estate market presence in complex and segmented investment markets as well as the diversification benefits of having a foreign estate investment. Moreover, foreign estate investment, as per the case study has little correlation with U.S stocks.

Many studies have been conducted for identifying potential benefits of having an investment in the foreign estate as compared to local investment. The investment in real estate seems to give more returns with relatively less risks to U.S investors. The tradeoff between risks and rewards is justifiable.

Analysis

Investment Portfolio

Investor makes an investment portfolio so he can achieve his investment objectives. He might want specific rate of return with certain level of risk. Portfolio management involves four steps(Vanguard, 2015). Firstly, the investor has to identify how much money has to be invested and how to allocate that money to different investment opportunities. This is called asset allocation.  The asset allocation needs to be diversified; investor should not invest all their money in the same security or stock. Thus, to have diversified investment, where the risks and rewards are varied, Investors get great returns from such investements. Diversified portfolio might consist of stocks, bonds, and other securities. The investor invests in different categories as per his tolerable risk and investment goal (Here's Why Diversification Matters, 2013).

Second step requires investor to decide where to invest, under each category. Third and fourth step are about the investor’s decision to have investment in active or passively managed funds and their evaluation.

Diversification of investment portfolio

Investor might have a diversified portfolio, with foreign stocks and bonds as well. However, as per the case study, international diversification proves to be ineffective and doesn’t bear the required results for investors. The international investment doesn’t provide mean variance portfolio efficiency to the investor. The mean variance efficiency is described as the maximum return that can be achieved from the investment portfolio, at a specific tolerable risk. One possible reason that has been identified in the case for the poor variance efficiency is that stock markets have become integrated globally. The stocks bear standard rate of return and risk due to arbitrageurs’ activities. With integrated stock markets, there is less variation in investment opportunities at each market segment, and are influenced by arbitrageurs. This has a stark contrast with real estate investment. In the real estate investments, the arbitrageurs have least effect on returns and rewards associated with the investments. There are few reasons to have this benefit, such as:

  • Thus, with different appraisal methods it is difficult to ascertain the return and the risk that will be associated with such an investment.
  • The real estate properties are immovable and are fixed on regional basis. Thus, the arbitrage has got his opportunity beaten by the fact that due to immovable nature of the property, the real estate investment cannot be brought to other markets for exploitation and getting benefit of price inequalities.

Therefore international real estate investment has least possibility of being affected by arbitrageurs and are unaffected by development of integrated stock markets globally. It has greater mean variance efficiency and can generate more returns with the relatively less level of risk...............

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