A stress testing scenario analysis for house prices: an application to the Greek market

The global credit crunch of 2007-2008 and the subsequent European sovereign debt crisis had a significant negative impact on real estate asset values in general and house prices in particular, in many countries around the world. This further had a direct impact on mortgage loans, thus creating a major burden for financial institutions as the quality of their credit portfolios declined rapidly. As a response to the effects of the crisis on financial stability, stress tests have been introduced as a means to assess the capital requirements of financial institutions. While these have focused on a global analysis of the capital position of the institutions, more focused results are required for particular type of products, including mortgage loans and real estate investment portfolios. To this end, this study presents the application of a Monte Carlo simulation approach to stress testing house prices in Greece. The Greek market has experience a major decline in asset values over the past 6-7 years, due to the deteriorating economic environment. The adopted approach is combines an econometric model that relates regional houses price indices to economic variables, with a simulation approach based on mid-term economic scenarios. Empirical results are presented for a sample portfolio of residencies in Greece provide by a leading real estate service provider in Greece and South-East Europe.