Do Commodities offer a better mix than REITs in terms of return, inflation hedge and diversification ?

Several years ago, investors started to gain interest for new assets in order to diversify their portfolios and, especially, to achieve better performance. Therefore, a lot of investors shifted into commodities and REITs to try to achieve these targets. A lot of research has studied the properties of commodities and REITs, and their benefits of inclusion into an investment portfolio. Based on previous research, we explore the different properties of both assets and try to find out which is the best asset class. In that respect, we investigate several investment strategies and analyse the performances of commodities and REITs through three different dimensions: the return, the diversification and the inflation hedge. Firstly, we explore the Fama-French Three Factor Model in which we allocate different weights (i.e. 5%, 10% and 15%) to both real assets into four equity-style portfolios (i.e. small-caps, large-caps, growth-caps and value-caps). The analysis reveals that REITs have a positive impact on returns and on volatilities too, to some extent. On the contrary, commodities seem to affect negatively returns but are better than REITs to lower volatilities. Secondly, we explore the investment strategy developed by Mohamed El-Erian. We build around thirty alternative portfolios to the original El-Erian portfolio. We notice that the conclusions previously established remain valid. Commodities and REITs have a significant positive impact on returns and volatilities. Thirdly, we study the strategy developed by Mebane Faber and Eric Richardson through their Ivy portfolio. In the same way as the authors compare their portfolio with the Harvard and Yale endowments as well as they compare it with David Swensen’s strategy, we also explore these strategies in our research. Hence, we point out that the conclusions established in the previous analyses are not valid anymore. Indeed, commodities show better properties than REITs in terms of return and diversification. Besides different strategies, these results might be explained by the fact that we use different indices through the analyses. Finally, we analyse the capacity of commodities and REITs to hedge against inflation. Based on several performance measures, we compare both assets with stocks, bills and bonds. We conclude that commodities are better inflation hedges than REITs. In other words, REITs cannot hedge against inflation as well as stocks and bonds with a maturity greater than ten years.