Indirect Real Estate Investments and their Links with Properties, Common Stocks and the Macroeconomy

Alexander SchätzEuropean Real Estate Society Conference 2010 in Milano, June 23-26, 2010

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Approach

1. Conventional Approach US Model: NAREIT Equity REIT Index, NCREIF Property Index, S&P 500 UK Model: FTSE 350 Real Estate Index, IPD, FTSE 100

2. Real Estate Investments and the Macroeconomy Direct Real Estate Investments Indirect Real Estate Investments

3. Macroeconomic Approach 3 Assets (Direct RE Investment, General Stocks, Indirect RE Investments) GDP CPI Short-Term Interest Rates Long-Term Interest Rates / Mortgage Rates

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Sample Selection and Structural BreaksResults for the US and UK Markets

Approach

Conventional Macroeconomic

3 Assets CPI, GDPCPI, GDP, Long-

Term Rates (10y)

CPI, GDP, Short-Term Rates (3m)

Q1 1978 – Q3 2009Instable

Dubious signs

Instable Dubious signs

Instable Dubious signs

Instable Dubious signs

Q1 1978 – Q2 2008Instable

Dubious signs

Instable

Dubious signs

Instable

Dubious signs

Instable

Dubious signs

Q1 1992 – Q2 2008 Stable Stable Stable Stable

Q1 1992 – Q3 2009 Stable Stable Stable Stable

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0

10

20

30

40

50

60

70

80

2 4 6 8 10 12 14 16 18 20

NAREIT NCREIF SP500

Variance Decomposition of NAREIT

0

20

40

60

80

100

2 4 6 8 10 12 14 16 18 20

RESTOCK IPD FTSE

Variance Decomposition of RESTOCK

Conventional Approach VECM (β – vectors) and Variance Decomposition

Sample: Q1 1992 – Q3 2009

% %

Time Time

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Real Estate and the MacroeconomyVECM (β – vectors)

Sample: Q1 1992 – Q3 2009

Indirect Investment

Direct Investment

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Macroeconomic ApproachVECM (β – vectors)

Sample: Q1 1992 – Q3 2009

Macroeconomic Approach including Short-Term Interest Rates

2

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Macroeconomic Approach Variance-Decomposition

United States United Kingdom

0

10

20

30

40

50

60

2 4 6 8 10 12 14 16 18 20

NCREIF NAREIT CPIINTER GDP SP500

Variance Decomposition of NAREIT

0

10

20

30

40

50

60

70

2 4 6 8 10 12 14 16 18 20

IPD RESTOCK CPIINTER GDP FTSE

Variance Decomposition of RESTOCK%%

Time Time

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Empirical Results: VECM (β – vectors)

Sample: Q1 1992 – Q3 2009

Macroeconomic Approach including Long-Term Interest Rates

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Empirical Results: VECM (β – vectors)

0

10

20

30

40

50

60

70

2 4 6 8 10 12 14 16 18 20

NCREIF NAREIT CPILTRATES GDP SP500

Variance Decomposition of NAREIT

0

10

20

30

40

50

60

70

2 4 6 8 10 12 14 16 18 20

IPD RESTOCK CPIINTER GDP FTSE

Variance Decomposition of RESTOCK

United States United Kingdom

%%

Time Time

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Summary

1. The conventional approach indicates a stronger impact of direct

real estate in the long run.

2. Direct and indirect real estate investments are driven by exactly the

same macroeconomic factors.

3. The macroeconomic approach indicates a stronger impact of direct

real estate in the long run.

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Thank you for your attention!

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3. Literature: “Features of Real Estate Assets“

Author (Year) Method Findings

Ling and Naranjo (1999)

Real Estate Economics

Multifactor Asset Pricing Model (MAP)

•Exchange-traded real estate and equity markets are integrated

•Degree of integration increased during the 1990s

Glascock et al. (2000)

Journal of Real Estate Finance and Economics

Cointegration •REITs are rather comparable with stocks than bonds

Bond et al. (2003)

Real Estate EconomicsCAPM

•Substantial variation in mean returns and standard deviations across the examined countries

Hamelink and Hoesli (2004)

Real Estate Economics

Cross-sectional regressions

•Dominant role of country factors

•Relevance of size factors and value/growth factors

Westerheide (2006)

ZEW Working Paper

Engle Granger Test, ECM, Johansen Procedure

•In the long run: Real estate equities reflect the direct real estate; (weak) hedge against inflation

Morawski et al. (2008)

Financial Markets and Portfolio Management

Johansen Procedure

•In the short run: Real estate equities follow the general stock market

•In the long run: Real estate equities reflect the direct real estate

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Author (Year) Method Findings

Liu et al. (1997)

Real Estate Economics

According to Fama, Schwert (1977) as well as Geske, Roll (1983)

•Real estate do not represent a better hedge against inflation compared to common stocks

Liang and McIntosh (1998)

Journal of Real Estate Portfolio Management

Regressions and Rolling Correlations

•Positive linkage between employment growth of metropolitan areas and their property markets

Quan and Titman (1999)

Real Estate Economics Regressions

•significant relation between real estate prices and stock prices

•inflation-hedging characteristics in the long run

Sing (2004)

Journal of Property Research

Multifactor Asset Pricing Models (MAP)

•Macroeconomic risk factors are priced different in securitized and direct real estate markets

Hoesli et al. (2008)

Journal of Real Estate Finance and Economics

Vector error correction approach

•positive linkage between commercial real estate and anticipated inflation

•Negative linkage due to inflation shocks

3. Literature: “Real Estate and Macroeconomics“

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4. Methodology: Cointegration and VECM

Cointegration Tests

1. Trace-Test

H0 : There are at most r positive eigenvalues

H1 : There are more than r positive eigenvalues

p

λTrace = - T ∑ ln(1-λi)

r+1

2. Maximum Eigenvalue

H0: There are exactly r positive eigenvalues

H1: There are exactly r+1 positive eigenvalues

λmax = - T ln(1 -λr+1)

Vector Error Correction Model (VECM)

∆Y(n x 1) vector of the first

differences of stochastic variables

Гi

(n x n) matrices representing the

short-term dynamics

ß(n x r) matrix representing the r

cointegrating vectors

α(n x r) matrix containing the loading

parameter

μ (n x 1) vector of constants

εterror term