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The Interest Rate Sensitivity of Institutional Real Estate Investments

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  • Michael Heinrich
  • Thomas Schreck

Abstract

Real estate is known for high risk-adjusted returns and its diversification qualities. However, apart from traditional volatility-based risk measures, institutional investors also have to manage the interest rate risk of their portfolios. In practice, the interest rate sensitivity of the assets must be matched with the interest rate sensitivity of the companies’ liabilities. Regulation standards like Solvency II incentivize life insurance companies to minimize their interest rate risk exposure by requiring large amounts of economic capital to cover remaining interest rate risk. Furthermore, the current low interest environment raises the question of how sensitively real estate assets react to positive interest rate shocks. We estimate the interest rate sensitivity of real estate empirically, using a panel regression model. We find a strong link between the level and the term structure of market interest rates and the valuation of real estate. By dividing our sample into different subsamples, we identify both interest shock sensitive and interest shock robust submarkets. To the best of our knowledge, this is the first study analyzing the influence of interest rate shocks on real estate valuations based on actual portfolio data of a major life insurance company.

Suggested Citation

  • Michael Heinrich & Thomas Schreck, 2018. "The Interest Rate Sensitivity of Institutional Real Estate Investments," LARES lares_2018_paper_112-hein, Latin American Real Estate Society (LARES).
  • Handle: RePEc:lre:wpaper:lares_2018_paper_112-heinrich-schreck
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    References listed on IDEAS

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    1. repec:taf:jpropr:v:19:y:2002:i:1:p:61-80 is not listed on IDEAS
    2. Plamen K Iossifov & Martin Cihak & Amar Shanghavi, 2008. "Interest Rate Elasticity of Residential Housing Prices," IMF Working Papers 08/247, International Monetary Fund.
    3. Alain Chaney & Martin Hoesli, 2010. "The interest rate sensitivity of real estate," Journal of Property Research, Taylor & Francis Journals, vol. 27(1), pages 61-85, May.
    4. Mihnea Constantinescu, 2010. "What is the “duration” of Swiss direct real estate?," Journal of Property Investment & Finance, Emerald Group Publishing, vol. 28(3), pages 181-197, April.
    5. Adams, A.T. & Booth, P.M. & MacGregor, B.D., 1999. "Property Investment Appraisal," British Actuarial Journal, Cambridge University Press, vol. 5(05), pages 955-982, December.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Duration; Interest Rate Sensitivity; Life Insurance; Pension funds; Risk Management;

    JEL classification:

    • R3 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Real Estate Markets, Spatial Production Analysis, and Firm Location

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