Investing in alternatives from the ground up: a subsector approach for stable returns

Alternative real estate sectors can provide more resilient core returns than traditional property sectors when selected and operated through a disciplined subsector approach.

• Medical office, seniors housing and student housing are presented as less correlated with the broader economy and as sources of reliable, income-driven returns, while portfolios should balance long-term locked-in leases with leases that can be repriced annually for inflation.
• NCREIF has changed its traditional NPI benchmark from the four main sectors to a subsector-based framework that includes many alternatives, giving investors more data to assess their absolute returns, volatility and correlations.
• Seniors housing is the strongest demographic opportunity: population growth is described as above 4% in the target segment versus 0% to approximately 0.5% elsewhere, it ranked number two among 27 subsectors in the PwC/ULI survey, and Green Street forecasts 4% to 5% or more annual rental growth with additional revenue from occupancy gains.
• Welltower trades at a 3.3% implied cap rate and at more than a 100% premium to gross asset value, while the sector may need nearly to double its supply over the next 20-plus years as aging demand accelerates.
• Student housing is more selective: enrollment is weakening at non-flagship public universities and financially challenged private liberal-arts colleges, while large Power Four universities are gaining enrollment; medical office ranked third out of 27 subsectors in the same survey.
• Kayne Anderson says it avoided buying heavily when cap rates were at rock-bottom levels in 2021, bought in 2020 and after cap rates rose, and relies on proprietary sourcing, operating expertise and aligned partners to capture income growth in operationally intensive sectors.

Takeaway: Investors should favor experienced managers that can generate operational alpha within specific alternative subsectors rather than simply making a broad alternatives allocation, while recognizing that valuations, redemption queues and uneven demand mean the shift will be gradual and sector-selective.