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An expanding role for institutional investors.
Land and buildings have played an important role in both the ancient and the modern world as a source of wealth, power, and economic strength. Early economic systems from feudalism to mercantilism were all based, in part, on the income derived from agrarian and urban holdings. Meyer Melnikoff, an early proponent of real estate's role in a mixed-asset portfolio, was fond of saying that the "real" in real estate does not come just from its tangible nature. He claimed it derived from the French and Spanish word for royal (as in Montreal and Camino Real).1
Melnikoff's etymology opinion serves as a reminder that the bundle of rights and economic benefits associated with owning property can be held and distributed in countless ways. The development of the joint stock company at the beginning of the 17th century by the Dutch and the English introduced new ways to hold wealth, but the importance of land and buildings in both institutional and individual portfolios remained.2 When private pension funds first appeared in Europe and North America in the 19th century, they were often restricted to holding cash and fixed-income instruments. Real estate was considered suitable for endowments or foundations, and was often bequeathed to them under the terms of a charitable trust or an estate.
Public and private pension plans were understandably reluctant at first to hold less liquid and potentially management-intensive assets like land and buildings. Those that did embark on a direct investment program sometimes relied on their own staff to acquire and to manage assets, and were often unhappy with the experience (see McKelvy [1983]).
The creation of commingled funds gave large and small institutional investors much easier access to the real estate asset class in the early 1970s. Direct or separate account investing under the guidance of an external fiduciary first became common among larger public pension plans in the 1980s. The adoption in the 1990s of the quadrants approach to real estate investing that we discuss further enhanced access for cash balance and 401(k) plans, as well as giving defined-benefit plans more liquid options.
Real estate was initially viewed as a portfolio diversifier or risk reducer. The Employee Retirement Income Security Act (ERISA) of 1974, as...