Determinants of Risk-Adjusted REIT Performance - Evidence from US Equity REITs

Drawing from both general finance and real estate literature of asset pricing, the purpose of the current investigation is to examine the firm-specific and macroeconomic determinants of risk-adjusted REIT performance. The paper moreover attempts to evaluate their magnitude and significance both over time and property sectors and therefore provides for a deeper understanding of the pricing of equity REITs. The two chosen performance metrics, the Sharpe and Sortino Ratio, make the results especially appealing to retail investors who do not hold a diversified portfolio, as both ratios do not depend on the validity of the CAPM. In that context, the widely shown inability of the CAPM to explain the cross-section of both stock and REIT returns does not only make both ratios, but also the approach of including firm-specific and macroeconomic, time-varying variables more appropriate. The sample of 275 US equity REITs over the period from 1993 to 2008 is analysed concerning the importance of six firm-specific (size, book-to-market value, leverage, dividend yield, FFO payout ratio and property focus) and three macroeconomic (interest rate changes, stock market return and market phase dummy) variables in explaining the risk-adjusted performance over a one-year holding period. The empirical analysis reveals that all three macroeconomic and five firm-specific factors, namely the size, bookto- market value, leverage, dividend yield and FFO payout ratio, play ñ on average ñ a significant part in explaining the risk-adjusted returns of US equity REITs. However, it is also shown that their significance and magnitude varies both over market phases and REIT sectors, as some factors become insignificant, more significant or reverse their impact. In conclusion, the paper adds to the existing literature not only by examining the drivers of both total risk and downside risk-adjusted returns, but also by highlighting that while the overall, average effect of these variables, that has been found in precedent research, can be reaffirmed, it largely stems from distinct time periods and property sectors. This has important implications for investors, as they need to consider both the current market phase and the property sector they want to invest in before determining on which variable they want to base their investment decision.