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Understanding Commercial Real Estate: Just How Different from Housing Is It?

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  • Joseph Gyourko

Abstract

Recent sharp declines in owner-occupied housing prices naturally raise the question of whether something similar will happen to income-producing properties. It already has based on the nearly 60% decline in the share prices of publicly-traded, commercial property firms from their peak in early 2007. The core model of spatial equilibrium in urban economics suggests this should not be a surprise, as it shows that both real estate sectors are driven by common fundamentals, which should make them perform similarly. On the other hand, stronger limits to arbitrage in housing suggest wider swings in prices unrelated to fundamentals are feasible in that property sector. The data find many more similarities than differences across the two real estate sectors. The simple correlation between appreciation rates on owner-occupied housing and commercial real estate is nearly 40%. Both sectors also exhibit similar time series patterns in their price appreciation, with there being persistence across individual years and mean reversion over longer periods. Commercial real estate capital structure looks to be quite weak due to high leverage combined with strong mean reversion in prices. The aggregate loan-to-value ratio on income-producing properties is about 75%. Estimated mean reversion in price appreciation of at least 25% over relatively short horizons suggests that normal change from the recent peak will leave little or no equity on average to cushion against any future negative shocks.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 14708.

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Date of creation: Feb 2009
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Handle: RePEc:nbr:nberwo:14708

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  1. Shleifer, Andrei & Vishny, Robert W, 1997. " The Limits of Arbitrage," Journal of Finance, American Finance Association, vol. 52(1), pages 35-55, March.
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Cited by:
  1. Anna Grodecka, 2013. "Subprime borrowers, securitization and the transmission of business cycles," Bonn Econ Discussion Papers bgse07_2013, University of Bonn, Germany.
  2. Levitin, Adam & Wachter, Susan, 2012. "Explaining the Housing Bubble," MPRA Paper 41920, University Library of Munich, Germany.
  3. Greg Peterson & Eric Schone, 2012. "Rewarding Physicians for Their Patients' Health Outcomes: What Can Medicare Learn from Education's Value-Added Models?," Mathematica Policy Research Reports 7483, Mathematica Policy Research.
  4. Michal Hlavacek & Ondrej Novotny & Marek Rusnak, 2014. "Office Property in Central European Countries," Occasional Publications - Chapters in Edited Volumes, in: CNB Financial Stability Report 2013/2014, chapter 0, pages 148-155 Czech National Bank, Research Department.
  5. Joshua Aizenman & Yothin Jinjarak, 2008. "Current Account Patterns and National Real Estate Markets," NBER Working Papers 13921, National Bureau of Economic Research, Inc.

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