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Residential Real Estate in Europe: An Exploration of Common Risk Factors

Author

Listed:
  • Druica Elena

    ()

  • Ianole Rodica

    () (Faculty of Business and Administration, University of Bucharest)

  • Valsan Calin

    () (Williams School of Business, Bishop’s University)

Abstract

We conduct an exploratory analysis using proxy measures of cross-sectional returns and rental yields in residential real estate. Asset pricing models predict that expected returns should exhibit some sensitivity to one or several fundamental variables that represent a common source of undiversifiable risk. Residential real estate, just like works of art and collectibles, is unique because it represents both an investment vehicle and a durable consumption good. Its pricing and returns should thus reflect both the benefits from portfolio diversification and the effect of supply and demand. In this paper, we investigate the variation in proxy returns and proxy rental yields across 34 major European cities, using a handful of independent variables that should account for the influence of market risk, inflation, and liquidity. In spite of obvious limitations stemming from our sample, we find that the explanatory power of our model is unusually high for a cross-sectional data analysis. Some of our findings concur with other studies showing that in spite of strong segmentation, real estate markets respond to the same structural risk factors. A good portion of our results, however, is hard to explain and interpret. Either we need to take into account cultural differences between Eastern and Western Europe as part of a behavioral approach, or we have to concede that we have been misled by the mismatch in the level of aggregation and the crude estimation of the dependent variables.

Suggested Citation

  • Druica Elena & Ianole Rodica & Valsan Calin, 2015. "Residential Real Estate in Europe: An Exploration of Common Risk Factors," Review of Economic Perspectives, Sciendo, vol. 15(4), pages 413-429, December.
  • Handle: RePEc:vrs:reoecp:v:15:y:2015:i:4:p:413-429:n:5
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