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The Interest Rate Sensitivity of Real Estate

Author

Listed:
  • Alain CHANEY

    (Informations - und Ausbildungszentrum für Immobilien IAZI AG)

  • Martin HOESLI

    (University of Geneva (HEC and SFI), University of Aberdeen and Bordeaux Ecole de Management)

Abstract

This study yields a contribution to a better understanding of the interest rate sensitivity of real estate and should enable a more sophisticated interest rate risk management, especially for insurance companies and pension funds. This is achieved by modelling the whole life of a typical but simplified office investment property, based on a representative and exclusive data set for the Swiss investment real estate market. The interdependencies between interest rates, inflation, office market rents, current rent paid and expenses are modelled empirically. We perform Monte Carlo simulations that explicitly incorporate the uncertainty of the underlying stochastic processes, of their interdependencies and of modelling uncertainties, thus providing an indication of the final estimate’s uncertainty. Our results show that the interest rate sensitivity of a typical office property is 13.1%, with a standard deviation of 7.8%. The risk premium, the state of the macroeconomic environment, the degree of rotation of the interest curve and the remaining lifetime of the property are found to be the prime determinants of interest rate sensitivity.

Suggested Citation

  • Alain CHANEY & Martin HOESLI, 2010. "The Interest Rate Sensitivity of Real Estate," Swiss Finance Institute Research Paper Series 10-13, Swiss Finance Institute, revised Feb 2010.
    • Handle: RePEc:chf:rpseri:rp1013
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    References listed on IDEAS

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    1. Frederick R. Macaulay, 1938. "Some Theoretical Problems Suggested by the Movements of Interest Rates, Bond Yields and Stock Prices in the United States since 1856," NBER Books, National Bureau of Economic Research, Inc, number maca38-1, June.
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    Cited by:

    1. Dimitrios Gounopoulos & Kyriaki Kosmidou & Dimitrios Kousenidis & Victoria Patsika, 2019. "The investigation of the dynamic linkages between real estate market and stock market in Greece," The European Journal of Finance, Taylor & Francis Journals, vol. 25(7), pages 647-669, May.
    2. Alain Chaney & Martin Hoesli, 2015. "Transaction-Based and Appraisal-Based Capitalization Rate Determinants," International Real Estate Review, Global Social Science Institute, vol. 18(1), pages 1-43.
    3. Michael Heinrich & Thomas Schreck, 2018. "The Interest Rate Sensitivity of Institutional Real Estate Investments," LARES lares_2018_paper_112-hein, Latin American Real Estate Society (LARES).
    4. Fabrizio Battisti & Orazio Campo, 2019. "A Methodology for Determining the Profitability Index of Real Estate Initiatives Involving Public–Private Partnerships. A Case Study: The Integrated Intervention Programs in Rome," Sustainability, MDPI, vol. 11(5), pages 1-22, March.

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    More about this item

    Keywords

    Interest Rate Sensitivity; Duration; Property; DCF; Risk Management;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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