What is the "duration" of Swiss direct real estate?

Mihnea Constantinescu
2010 Journal of Property Investment & Finance  
Purpose -Computing the duration of real estate assets is a challenging task due to the particularities of the property market. This paper aims to develop an empirical model to compute the interest-rate sensitivity of direct real estate assets in the Swiss multifamily housing market. Design/methodology/approach -An aggregated total return index is used to empirically estimate the interest-rate sensitivity of the underlying assets in a dynamic DCF model. No instantaneous change is computed but a
more » ... is computed but a long-run price adjustment. Findings -The long-run sensitivity is computed to be roughly 4.5 per cent. The value is found to be statistically significant at the 1 per cent level. The model is estimated over two different time periods and the estimate remains significant over both periods with value changing marginally. Potential reliance of trends when forming expectations is found to be present. Research limitations/implications -One limitation is that the computed value is valid for a portfolio having a similar composition with the index used for the empirical estimation. Practical implications -The value of the interest-rate sensitivity places Swiss direct real estate assets within the European range. The value may be used to compute the risk-based capital of an institutional investor in as far as the portfolio is similar in composition with the index. Originality/value -The use of the dynamic DCF model allows one to split the changes in asset prices in changes from interest-rates and changes from cashflows. No value was previously available for the market of Swiss multifamily properties. Abstract The appeal of the duration concept comes from its simplicity and wide-use in portfolio immunization. Various duration measures are available for fixed income securities with predefined cash flows or interest-rate dependent cash flows. Real estate shares some features with fixed-income securities (relatively stable cash-flows) but it also has very distinct properties (no fixed maturity, possibility to "upgrade" the asset through investment). Furthermore Swiss rental real estate is particular within the real estate universe due to the existing legal restriction of the rent revising process. This implies that the standard duration measures developed for bonds need some adjustments when used with real estate assets. In this paper I try to develop an empirical measure of interest rate sensitivity for the Swiss direct residential real estate market starting from the dynamic DCF model of Campbell and Shiller. The estimated long-run sensitivity of direct real estate investments as proxied by the IAZI index with respect to the Swiss Confederation bond yield is of -4
doi:10.1108/14635781011048849 fatcat:qvisw6lfubgmjiktom67fehqoy