Real Estate Equities – Real Estate or Equities? Schätz, Alexander and Sebastian, Steffen European Real Estate Society Conference 2009 in Stockholm June 24-27, 2009

Seite 2 1. Direct Real Estate -Portfolio Diversification  Real estate = alternative investment  Real estate = real asset  Long-term investment horizons  Low correlations and a distinctive risk/return structure  Earlier studies found favourable characteristics: oHigh stability of value oLow volatilities oHedge against inflation -„Disadvantages“ of Direct Real Estate Investments  Illiquidity: Market volume, market spectrum  Low information efficiency, insufficient market transparency  High information costs, high transaction costs, reduced profit margins

Seite 3 1. Listed Real Estate -Ongoing expansion of securitized real estate -Consequences: -Additional drivers affect the performance and risk/return structure -Asset´s performance is dependent on current economic news, incorrect analyst expectations and valuations, -Risk: Irrational behaviour on stock markets Listed real estate companies are faced with the risk that market values are predominantly driven by developments on general stock markets

Seite 4 1. General Stock Market Risk and Portfolio Allocation -Limited benefits of listed real estate in terms of portfolio diversification -Risk of an involuntarily increased portfolio risk -Risk of a portfolio allocation that is riskier than intended

Seite 5 2. Objectives Real Estate Equities: Real Estate or Equities? -Can listed real estate still be characterised as real estate investments in their primary meaning? -Do the features as an alternative investment still persist despite listing on stock exchanges? -Do real estate investments still provide potential for diversifying the investors´ portfolios? -Still no incontrovertible evidence up to now!

Seite 6 3. Literature: “Features of Real Estate Assets“ Author (Year)MethodFindings 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 CointegrationREITs are rather comparable with stocks than bonds Bond et al. (2003) Real Estate Economics CAPM 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

Seite 7 Author (Year)MethodFindings 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“

Seite 8 4. Methodology: Cointegration and VECM Cointegration Tests 1. Trace-Test H 0 : There are at most r positive eigenvalues H 1 : There are more than r positive eigenvalues p λ Trace = - T ∑ ln(1-λ i ) r+1 2. Maximum Eigenvalue H 0 : There are exactly r positive eigenvalues H 1 : There are exactly r+1 positive eigenvalues λ max = - T ln(1 -λ r+1 ) Vector Error Correction Model (VECM) ∆Y (n x 1) vector of the first differences of stochastic variables ГiГi (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 εtεt error term

Seite 9 5. Empirical Results: VECM (β – vectors)

Seite Empirical Results: VECM (β – vectors)

Seite Empirical Results: Variance-Decomposition United States

Seite Empirical Results: Variance-Decomposition United Kingdom

Seite 13 Thank you for your attention!