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Pricing the Options Inherent in Leased Commercial Property: a UK Case Study

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  • Andrew Baum

    (Department of Real Estate & Planning, University of Reading School of Business)

Abstract

This paper sets out the findings of a group of research and development projects carried out at the Department of Real Estate & Planning at the University of Reading and at Oxford Property Systems over the period 1999 - 2003. The projects have several aims: these are to identify the fundamental drivers of the pricing of different lease terms in the UK property sector; to identify current and best market practice and uncover the main variations in lease terms; to identify key issues in pricing lease terms; and to develop a model for the pricing of rent under a variety of lease variations. From the landlord's perspective, the main factors driving the required 'compensation' for a lease term amendment include expected rental volatility, expected probability of tenant vacation, and the expected costs of tenant vacation. These data are used in conjunction with simulation technology to reflect the options inherent in certain lease types to explore the required rent adjustment. The resulting cash flows have interesting qualities which illustrate the potential importance of option pricing in a non-complex and practical way.

Suggested Citation

  • Andrew Baum, 2003. "Pricing the Options Inherent in Leased Commercial Property: a UK Case Study," Real Estate & Planning Working Papers rep-wp2003-09, Henley Business School, University of Reading.
    • Handle: RePEc:rdg:repxwp:rep-wp2003-09
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    File URL: http://www.reading.ac.uk/LM/LM/fulltxt/0903.pdf
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    References listed on IDEAS

    as
    1. Grenadier, Steven R., 1995. "Valuing lease contracts A real-options approach," Journal of Financial Economics, Elsevier, vol. 38(3), pages 297-331, July.
    2. repec:arz:wpaper:eres1998-113 is not listed on IDEAS
    3. Neil Crosby & Colin Lizieri & Sandi Murdoch, 1998. "Changing Lease Structures in Real Estate Office Markets," ERES eres1998_113, European Real Estate Society (ERES).
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    Cited by:

    1. Brett Robinson, 2012. "How many leases are enough to diversify a portfolio of multi-let industrial properties?," ERES eres2012_351, European Real Estate Society (ERES).

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