Superior Real Estate Investment Performance: Enigma or Illusion? A Critical Review of the Literature

The purpose of this paper is to critique the existing empirical evidence on the investment performance of real estate relative to alternative asset categories. The key issue which guides this review of the investment performance literature is whether abnormal real estate returns are merely an illusion which arises from the shortcomings associated with various real estate performance studies or are the result of an omission of more fundamental factors. We suggest that any superior return is a short-run phenomenon, because, according to capital market theory, all assets should exhibit similar risk and return characteristics in the long run. If real estate continues to possess superior performance in the long run, then this implies that fundamental factors have been omitted from the real estate pricing model. Moreover, we will propose that a world in which the capital asset pricing model holds might be compatible with the existing evidence, because most of the prior studies have focused on total risk rather than on systematic risk.1 Consequently, all assets can plot on the security market line in equilibrium, given a CAPM world, regardless of whether on asset (portfolio) such as real estate dominates another asset (protfolio) such as stocks from a mean-variance perspective.