Examining Investor Perceptions Of Obsolescence And Value Through A Behavioral Economics Lens

The higher the vacancy rate of a commercial building, the lower its revenue and therefore, the lower its value. Vacancy rates typically vary several percentage points through an economic cycle and, as most buildings age and leases expire, vacancy is addressed by downgrading and reducing lease rates resulting in gradually diminishing value over a period of years. Yet, for many office buildings, vacancy rates have risen rapidly causing their value to plummet. Nevertheless, many owner/investors seem to behave as though these buildings will regain tenants and recover value. In The Netherlands, the office space supply is currently around five million square meters, approximately 10 percent of the stock. Contrary to normal expectations, new office space is being briskly developed and absorbed thereby increasing the likelihood of more vacancies in older buildings. This paper examines patterns and causes of structural vacancy in Dutch office buildings focusing o n investors perceptions and decisions regarding the causes, the nature of the market and choices or alternative approaches in addressing vacancy. Following a review of location and typological characteristics of structurally vacant office buildings, it presents the results of a survey of those investors responsible for decisions about structurally vacant office buildingsin their portfolio. These results show that irrational optimism about the office market combined with overconfidence and the disposition effect play an important role in investor decisions about structurally vacant office buildings. The paper concludes with discussion of how building obsolescence can be appropriately be addressed given the presence of behavioral economic factors.