- Demonstrating the explanatory power of the six-factor model, virtually all industries are well-explained by four equity factors and two ﬁxed-income factors. Only one industry category (a catchall that included mining, construction, transportation, entertainment and hospitality, among other sectors) had statistically signiﬁcant annualized alpha, and the estimate was negative.
- The annual alpha estimate for REITs was -0.89% with a t-stat near zero (-0.3).
- REITs showed statistically significant exposure to market beta (0.61 with a t-stat of 10.2), size (0.44 with a t-stat of 6.1) and value (0.77 with a t-stat of 9.9), as well as a small negative (-0.08) and statistically insignificant (t-stat of -1.7) exposure to the momentum factor, a large (0.70) and statistically significant (t-stat of 3.8) exposure to the term premium, and a large (0.92) and statistically significant (t-stat of 3.9) exposure to the credit (default) premium.
- While the R-squared ratio was relatively low for REITs (0.51), this was also true for other industries, including energy, utilities and health care.
These findings led Kizer and Grover to conclude that, while the low R-squared ratios indicate diversiﬁable risks present in each industry, they do not indicate uniqueness in underlying return drivers.
The authors state: “While the relatively low correlation with the S&P 500 Index and 5YT was encouraging, the four- and six-factor regression models indicate that REITs are likely not a distinct asset class, especially when compared to the results of other industries.”
Their evidence demonstrates that, while REITs may meet the first of the four criteria they established (low correlation), they fail to meet the second (significant alpha).
Distinct Asset Class?
Kizer and Grover next tested REITs against the third criteria—a distinct asset class should not be easily replicated by a long-only portfolio of established asset classes. Given the factor exposures they had found, and using returns for U.S. small-cap value stocks (SV) from Ken French’s data library and the Barclays long-term corporate bond index (CORP), they attempted to replicate REIT returns with these two returns series.
The following table shows results from a portfolio allocating about 67% to SV and 33% to CORP. This optimal replicating portfolio has a monthly correlation with REITs of 0.72. The table also presents other statistics that compare the optimal replicating portfolio to REITs over the period January 1978 through September 2016.