The third aspect of the process is the qualitative screening. We rank five different aspects in terms of quality to assign the franchise value. We rate the management team, the business plan, the geographic location, the quality of the properties, and the M&A potential. Our investments aren't driven by mergers and acquisitions, but it is wise to keep them on the radar screen, particularly since so many companies have been taken out in the REIT space in the last couple of years.

Q:  Could you give us some specific examples that illustrate your research process?

A: Last year Jay Rosenberg found a company in the healthcare space called American Retirement Corporation, which was a very small-cap name. Jay found it through our proprietary screens and did a lot of work on the company. He got to know management and the portfolio, and we made a relatively big investment to this very small-cap name. Then Brookdale Senior Living bought out the company at a premium of about 33%, but we believed that it had even more room for growth. That was a company followed by only a couple of analysts and none of our peers owned it.

Another example is Kilroy Realty, a West coast office development company. The stock is a bit expensive because of the land holdings and the attractive markets in and north of San Diego. The company has been excellent over the years at making land purchases and moving forward with development as the market allows. We like the business plan and the management team in terms of execution and concern about investor capital. On the other hand, they get beat up often because they like to pay the top managers very well. Any time they come out with a new compensation plan, some investors sell off, but for us that’s an opportunity.

The important point is that in addition to the screening process and the analysis, we also spend time in their headquarters, scrutinize their analysis of the markets, and investigate what other people say about them. Overall, the process is a combination of numbers, detective work, being on the ground and talking to people, looking at the properties, and understanding the sub-markets.

Q:  What are the key elements of the portfolio construction process?

A: We don't make property sector bets and our portfolio is well-balanced across property types. Our goal is to pick the best companies within each property type. We do not place our bets according to the economics cycles. Instead, our strategy is to be invested in the best companies across the spectrum of property types. Since the best companies will always rise to the top, that’s our way to drive long-term shareholder value.

In the open-end fund, we manage about $1.1 billion assets to the MSCI U.S. REIT Index. But we also have separately managed accounts that use a variety of real estate indexes, and we target consistent outperformance to all of them.

Q:  How do you make your sell decisions?

A: We are very active traders, particularly in the opportunistic part of the portfolio. We establish a specific price target for each holding and we’re not afraid to trade around it. Since the opportunistic holdings are meant to take advantage of valuation, once the catalyst is realized, we would reap the benefits and move on.

Regarding the core holdings, we sell mainly when we see problems on the qualitative side. If we don’t feel good about a company, we wouldn’t stick with it. Specific sell triggers are deterioration of the fundamentals versus the peer group, a change in the demand and supply outlook, failure of the management to consistently execute the business plans, and a valuation that is way out of track relative to the fundamentals or the peers.

Q:  What’s your view on risk management?

A: As a corporation, we have a risk management committee chaired by our Chief Investment Officer, which provides an additional layer of analysis and monitoring. Our quant group assesses the risk dynamics across all the portfolios and then we have quarterly meetings to discuss our bets, performance, and risks. The incentives also make sense from a risk management perspective - we get paid relative to our placement in the Lipper peer group and we’re incentivized to be better than the average, yet not swing for the fences.

We monitor benchmark risk and review the quantitative factors versus the real estate industries. Then we look at our investment process, which we continuously try to refine. Based on how we did versus the benchmarks and the peers, we critically assess what we do right and what we do wrong.

Our asset attribution analysis shows that stock selection has always been the key for us. For example, in 2006 we outperformed the MSCI Index with 474 basis points but we had 508 basis points from stock selection and we lost 33 basis points from sector allocations. So the performance comes from stock selection that is spread across all the property types, and there is no outlier. The idea is to be diversified and to manage a balanced portfolio driven by stock selection.