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Hedging Housing Risk in London

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  • François Ortalo-Magné
  • Matteo Iacoviello

Abstract

This paper investigates the benefits of allowing households to compensate the portfolio distortion due to their housing consumption through investments in housing price derivatives. Focusing on the London market, we show that a major loss from over-investment in housing is that households are forced to hold a very risky portfolio. However, the strong performance of the London housing market means that little is lost in terms of expected returns. Even households with limited wealth are better off owning their home rather than renting and investing in financial assets, as long as they are willing to face the financial risk involved. In this context, access to housing price derivatives would benefit most poor homeowners looking to limit their risk exposure. It would also benefit wealthier investors looking for the high returns provided by housing investments without the costs of direct ownership of properties. Comparisons with French, Swedish and U.S. data provide a broader perspective on our findings. Copyright 2003 by Kluwer Academic Publishers

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Paper provided by University of Wisconsin Center for Urban Land Economic Research in its series Wisconsin-Madison CULER working papers with number 02-03.

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Handle: RePEc:wop:wisule:02-03

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  1. John Y. Campbell & Luis M. Viceira, 1998. "Consumption and Portfolio Decisions When Expected Returns Are Time Varying," Harvard Institute of Economic Research Working Papers 1835, Harvard - Institute of Economic Research.
  2. Joao Cocco, 2000. "Hedging House Price Risk With Incomplete Markets," Computing in Economics and Finance 2000 317, Society for Computational Economics.
  3. Karl E. Case & Robert J. Shiller & Allan N. Weiss, 1991. "Index-Based Futures and Options Markets in Real Estate," Cowles Foundation Discussion Papers 1006, Cowles Foundation for Research in Economics, Yale University.
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Cited by:
  1. Markus Haavio & Heikki Kauppi, 2006. "House price fluctuations and residential sorting," 2006 Meeting Papers 774, Society for Economic Dynamics.
  2. Ortalo-Magne, Francois & Rady, Sven, 2002. "Tenure choice and the riskiness of non-housing consumption," Journal of Housing Economics, Elsevier, vol. 11(3), pages 266-279, September.
  3. Charles Leung, 2007. "Equilibrium Correlations of Asset Price and Return," The Journal of Real Estate Finance and Economics, Springer, vol. 34(2), pages 233-256, February.
  4. Sock Yong Phang, 2009. "Affordable homeownership policy: implications for housing markets," Working Papers 14-2009, Singapore Management University, School of Economics, revised Nov 2009.
  5. Deng, Yongheng & Quigley, John M., 2008. "Index Revision, House Price Risk, and the Market for House Price Derivatives," Berkeley Program on Housing and Urban Policy, Working Paper Series qt4sw0x30t, Berkeley Program on Housing and Urban Policy.
  6. Dröes, Martijn I. & Hassink, Wolter H.J., 2013. "House price risk and the hedging benefits of home ownership," Journal of Housing Economics, Elsevier, vol. 22(2), pages 92-99.
  7. Cristian Voicu & Michael Seiler, 2013. "Deriving Optimal Portfolios for Hedging Housing Risk," The Journal of Real Estate Finance and Economics, Springer, vol. 46(3), pages 379-396, April.
  8. Jan Rouwendal, 2009. "Housing Wealth and Household Portfolios in an Ageing Society," De Economist, Springer, vol. 157(1), pages 1-48, March.
  9. Sousa, Ricardo M., 2009. "Wealth effects on consumption: evidence from the euro area," Working Paper Series 1050, European Central Bank.
  10. Sheng Guo & William Hardin, 2014. "Wealth, Composition, Housing, Income and Consumption," The Journal of Real Estate Finance and Economics, Springer, vol. 48(2), pages 221-243, February.
  11. Juerg Syz & Paolo Vanini & Marco Salvi, 2008. "Property Derivatives and Index-Linked Mortgages," The Journal of Real Estate Finance and Economics, Springer, vol. 36(1), pages 23-35, January.
  12. Ricardo M. Sousa, 2007. "Wealth Shocks and Risk Aversion," NIPE Working Papers 28/2007, NIPE - Universidade do Minho.
  13. Buckley, Robert & Karaguishiyeva, Gulmira & Van Order, Robert & Vecvagare, Laura, 2003. "Comparing mortgage credit risk policies : an options-based approach," Policy Research Working Paper Series 3047, The World Bank.
  14. Quigley, John M., 2006. "Real estate portfolio allocation: The European consumers' perspective," Journal of Housing Economics, Elsevier, vol. 15(3), pages 169-188, September.

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