Do Preferred REITs Have Portfolio Enhancement Attributes? An Empirical Investigation

Relative to common equities and fixed-income securities, preferred securities have received scant attention from the academic and professional communities. Here, we utilize bivariate dynamic conditional correlation (DCC) and conventional mean-variance optimization models to construct asset portfolios of stocks, bonds, and REITs (real estate investment trusts), including publicly traded equity REIT securities (EREITs), mortgage REITs (MREITs), and REIT preferred stocks (PSREITs). Our analysis of weekly data from January 2000 through December 2019 reveals strong evidence that PSREIT securities have meaningful diversification benefits. During periods of economic expansion, the results indicate that increasing the portfolio inclusion of PSREIT securities, owing to their equity-like characteristics, increases the Sharpe reward-to-variability ratios of portfolios from 0.237 to 0.296. Time-varying correlations and optimal weights in our models exhibit dependence on the state of the economy. Highlighting the benefits of including PSREIT securities within a traditional mixed-asset portfolio, we also acknowledge liquidity constraints and other microstructure considerations that may limit market participation by individual investors and managers of small portfolios.