N°24-62: Real Estate in Liability-Driven Investment: The Case of U.S. Pension Funds

This paper examines the role of real estate in U.S. pension portfolios, considering various funding ratios and liability durations. It also investigates the composition of the real estate allocation across sectors and market types. We develop a non-parametric block bootstrap surplus optimization that incorporates modelled liabilities that account for changes in pension beneficiaries' wages, changes in the discount rate curve, and mortality. When considering the liabilities of a pension fund, the optimal real estate allocation is found to be substantially lower than in the asset-only case. Plans that are relatively close to a zero surplus exhibit the highest allocations. When low-risk portfolios are considered, plans that have a longer duration have a higher allocation to real estate than plans with a shorter duration. For a high-risk strategy, the highest real estate allocations are for plans that have moderate liability durations. Overall, our results support the institutional investor preferences for gateway markets. Concerning sectoral allocations, industrial properties dominate the real estate allocation.