401(k) and the Passive Investment Revolution

(March 27, 2014) — Over the past decade, the investment game has changed for 401(k) plan members, with passive strategies winning the latest round, a survey has found.

Vanguard, a predominantly passive investment manager, published a report this week showing a 51% relative decline in pension scheme members who exclusively used active strategies to manage their 401(k) plans.

“In 2004, 39% of participants were invested exclusively in active funds. By 2012, this all-active group had dropped to 19%,” the report said. “Conversely, in 2004, 10% of participants were invested solely in index funds. By 2012, that figure was 38%, a nearly fourfold increase.”

For those using a blend of the two approaches, Vanguard found passive strategies had won out. In 2004, some 30% of 401(k) assets were invested passively; by 2012, this had increased to 60% of the entire portfolio.

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The difference in approaches is starkly displayed when looking at who is doing the investing.

Some older 401(k) plan members remained 100% invested in active strategies, which Vanguard attributed to “inertia”. Younger investors often had 100% passive strategies in their plan, “largely because they were automatically enrolled in plans with index-based target-date funds as the default investment,” Vanguard said.

Employers and plan sponsors have played a significant part in this structural shift, Vanguard added: “In recent years, more index funds—primarily indexed target-date funds—have been added to plans because of the sponsors’ desire to reduce participants’ investment costs and exposure to active fund risk.”

Vanguard also found a shift out of funds that were non-indexable, such as money market funds over the 2004 to 2012 period. These options used to make up 32% of an average portfolio in 2004; by 2012, they made up just 19%.

This month, a study by professors at Yale School of Management and the University of Virginia found 16% of young US investors would be better off opting out of their 401(k) plan and saving for retirement in a retail index fund.

(March 27, 2014) — Dutch real estate managers are beginning talks with institutional investors from outside the Netherlands to try and tempt them into investing in their residential property.

Dutch pension funds have been strong investors in their own residential property for many years, but now, thanks to a host of new assets hitting the market, the fund managers are targeting external investors too.

From January this year, a large portion of the regulated rental sector, which accounts for around 90% of Dutch rental properties (2.3 million dwellings), has been significantly opened-up to market.

Social housing providers, which currently own 71% of the rental market, have been forced to only run properties for lower-income earners who pay below €699 in rent per month. This has forced them to sell any housing stock that commands higher rents to other investors.

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A report produced by eight real estate managers in the Netherlands has estimated that these legislative changes could increase the growth in the number of dwellings in the non-regulated rental sector by up to 200%, or 695,000 homes, over the next 20 years. The regulated market is projected to decline by 10% to 16%.

“The lights have definitely all turned green this year, allowing the Dutch residential market to emerge as a strong, viable investment asset class for international institutional investors,” said Jaap van der Bijl, managing director of investor relations at Syntrus Achmea Real Estate & Finance, one of the contributors to the report.

“If the Netherlands can attract the capital flows to boost the supply of stock, I see no reason why we can’t match the appeal of neighbours such as Germany and the UK, where housing is hot.”

One of the biggest advantages for external investors wanting to invest in Dutch residential property is its position as a diversifier. The correlation between the Dutch residential market and other European residential assets is low, according to the report.

Unlike property prices, which lost 18% of their value during the financial crisis and have failed to recover, rental yields have steadily increased year on year, particularly in the non-regulated sector.

The house price-to-rent ratio—which shows the price an investor has to pay for annual cash flows the investment generates—has trended back to its long-term average in the Netherlands.

Further boosts to demand in the non-regulated market could come from the less favourable tax treatment of mortgages in the Netherlands, measures to close the gap between regulated and free market rents, and future upward pressure on Dutch residential prices thanks to a shortfall in supply.

Since the onset of the financial crisis, the construction of new housing has fallen from a peak of about 80,000 per year in 2008, to less than 60,000 in 2011. Meanwhile, demand for additional residential units will increase by 540,000 over the next 10 years, driven mainly by an increase in the number of elderly single person households, a rise in the number of students, and younger singles leaving home.

Van der Bijl, whose firm acts on behalf of 50 Dutch pension funds and insurers, said the options to invest in Dutch residential real estate ranged from funds to direct investment and joint ventures.

With approximately €1 billion worth of deals in the pipeline, the yields today are around 1.5% plus a cash dividend (more than 4.0%), but they are expected to rise to 5% and above in the coming years, according to van der Bijl.

“We’re looking towards Western European investors today, but it could appeal to US and other investors too,” he said.

“Amsterdam is a great location, but the local GDP structure in The Hague is also interesting. We also include the wider metropolitan area, for instance Amstelveen and Haarlem. Every town has its specialized profile, which requires local in-depth knowledge to select the most promising real estate in that local market.”

Syntrus Achmea would also consider Utrecht and smaller cities with a well-diversified demographic, a historical town centre, culture, good transport links, and good universities or colleges.

Bouwinvest, which manages the real estate portfolio for the construction workers pension fund in the Netherlands as anchor investor, is focused on the non-regulated residential rental sector and believes the recent regulatory changes have given a strong positive stimulus to the private rental sector.

Its fund is currently the largest real estate fund in the Netherlands, standing at €2.6 billion in unleveraged, core residential assets.

“Our target is an average 6% fund return in the long-term, and we’re hitting that,” said Michiel de Bruine, head of asset management at Bouwinvest.

“German investors are already here, and the Nordics are like minded. We are investing another €600 million over the next three years in the sector, and have supported the construction of over 1,000 apartments in Amsterdam alone.”

Bouwinvest also manages an office and retail fund, and a healthcare fund is planned.

There are only six European countries with sizeable institutional investments in residential as part of their total real estate allocations, according to Investment Property Databank: the Netherlands (49%), Switzerland (47%), France (12%), Germany (12%), Sweden (12%), and the UK (4%).

The Netherlands was the least volatile market for total returns during the past 10 years, with a return-risk ratio of 1.04. While total returns for residential property were superior in the UK, France, and Sweden, at an average of just under 10%, these were accompanied by relatively high volatility.