An asset-based approach to housing prices

From an asset pricing point of view the excess return of housing over the risk free rate is negatively related to the covariance between the gross housing return rate and the stochastic discount factor. Under log-normality regularity conditions, current return premiums would require an extremely volatile stochastic discount factor, as a consequence of the observed variability of real gross housing returns. We analyse the volatility bound noticing, that the logarithmic transformation of the rent/price ratio is, respectively, negatively and positively related to subsequent real rent growth and housing return rates. In predictive regressions the logarithmic transformation of the rent/price ratio is positively and significantly correlated to subsequent excess return rates and to gross housing return volatility, at horizons of 4–16 quarters. These results are robust to the specification of the regressions conditioning variables. Further analysis with a sign identified structural vector autoregression model shows that shocks to the rent/price ratio take several quarters to be completely realized and have persistent effects on real rent growth and interest rates, which last for more than 15 years. Moreover, the logarithmic rent/price ratio forecasts in each time period both forthcoming rent growth and gross housing return rates.