On the hedging benefits of REITs: The role of risk aversion and market states

Abstract

We propose a dynamic, forward-looking hedging strategy to manage stock market risks via positions in REITs, conditional on the level of risk aversion. Our findings show that REITs do not only offer significant risk reduction for passive portfolios, but also offer much improved risk-adjusted returns with the greatest benefits observed for Australia, Canada and the U.S. Overall, our findings suggest that time-varying risk aversion can be utilized to (i) establish effective hedges against stock market risks via positions in REITS, and (ii) improve the risk-return profile of passive portfolios.