CalSTRS Write-Down Likely Not The Last Among Pensions As Valuations Fall

The California State Teachers’ Retirement System, one of the largest pension plans in the country, is anticipating the write-down of its $52B real estate portfolio, a move that more pension funds could make in the coming months.

Though real estate has been a winning bet for CalSTRS and other pension funds in the recent past, there is mounting evidence that Federal Reserve interest rate hikes have negatively impacted property valuations, the Financial Times reported.  

“Office real estate is probably down about 20% in value, just based on the rise of interest rates,” CalSTRS Chief Investment Officer Christopher Ailman told the FT. “Our real estate consultants spoke to the board last month and said that they felt that real estate was going to have a negative year or two.”

While write-downs on pension funds' real estate holdings have happened before, they aren't common, Equable Institute Executive Director Anthony Randazzo said.

That might not be the case for much longer. 

Equable, a retirement systems think tank, has been expecting something like this to hit pension funds since 2020, when the pandemic first upended real estate, Randazzo said.

"I think there's a general sense across all pension funds that they're going to take a hit on their commercial real estate portfolios," Randazzo said. 

At least one other major pension fund has been told to expect as much. In a March meeting of the board of the California Public Employees' Retirement System, also among the top retirement plans in the nation, a CalPERS consultant told the board to anticipate "some rationalization of valuations within real estate" over the next 12 to 18 months. 

"We and everyone else in this industry do expect valuations to contract as we go through the year somewhat," Steve McCourt, a real estate, infrastructure and private equity consultant to CalPERS and managing principal at Maketa Investment Group, told the board in March. 

Randazzo said the write-downs aren't likely to destabilize CalSTRS overall. However, the final reduction in value on the books will probably look quite large because, at $52B, the fund's real estate portfolio is considerable. 

Pension funds have increased the amount of money they invest in real estate in an effort to secure higher returns and close their funding shortfalls. Real estate makes up about 17% of CalSTRS' total assets, according to the FT.

A number of American and Canadian pension funds have made efforts to insulate themselves from disruptions in CRE, with some beginning to sell office assets last year.

In 2019, private real estate funds had 34% of their investments in office properties. By 2022, that share had dropped to 23%, according to National Council of Real Estate Investment Fiduciaries data.

Ailman told the FT that CalSTRS invests for the long term and doesn't want to sell properties in a down market. 

“If you have long-term leases and solid debt financing, you’ll just hold,” he said. “Your office portfolio has fluctuated in value before. You’ll continue to get income.”