Diversification is often a key factor driving investment in real estate. The charts below illustrate the efficient frontiers of two portfolios for the period 1978-2009. On the vertical axis is the quarterly return, while the horizontal axis shows the range of risk. Stocks and bonds are taken from the S&P 500, while real estate is represented by the NCREIF index.
This visualization is particularly interesting because it shows that adding real estate significantly improves portfolio quality.
Chart Source: Real Estate Finance & Investments by William B. Brueggeman; Jeffrey D. Fisher
In addition to typically having price growth that outpaces inflation, real estate also exhibits positive correlation with inflation, making it a better tool for hedging inflation-related risks.
Source: https://www.longtermtrends.net/home-price-vs-inflation/
It is also essential to understand that diversification within the real estate sector itself is possible, leveraging different property types and locations. This is because properties in various locations and serving different functions yield varied returns during different periods.
Chart Source: Real Estate Finance & Investments by William B. Brueggeman; Jeffrey D. Fisher
Chart Source: Real Estate Finance & Investments by William B. Brueggeman; Jeffrey D. Fisher
P.S.
The reasons outlined above may explain why developed countries often incentivize real estate funds through tax policies. REITs typically do not pay corporate income tax (taxation is applied only at the dividend level). On the one hand, this increases profitability and encourages long-term investment; on the other hand, it provides investors with an opportunity to stabilize portfolio risk.