Value Premium in International REITs

ERES Conference 2014

Ytzen van der Werf and Fred Huibers27 June 2014y.vanderwerf@asre.nl

Outline

• Introduction• Aim• Literature review• Methodology• Data• Results• Conclusion

Introduction • Value investing attractive for common stocks• Value premium internationally accepted

phenomenon• Value premium = excess return from buying

cheap and selling expensive stocks• Extensively researched within common equities• Latest research into question whether it is a

reward for risk or rather a result of behavioural inaccuracy

Aim of this study• To find out whether:

A. the value premium exists for REITs in international developed markets and

B. whether it is a reward for risk or a behavioural phenomenon

Literature review RE• Vast number of studies into US REITs• Some find consistent value premium in US

REITs for the 90’s. Gentry et al. (2004) 11-22%. Ooi et al. (2007) 8.5%.

• One study into direct real estate (Addae et al. 2013). Assume properties with low initial yield are growth investments. Find value premium of 6% p.a. for offices and 8% for retail.

• No study so far into non-US REITs

Methodology

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𝐵/𝑀=𝐵𝑜𝑜𝑘𝑣𝑎𝑙𝑢𝑒𝑜𝑓 𝑒𝑞𝑢𝑖𝑡𝑦

𝑀𝑎𝑟𝑘𝑒𝑡 𝑣𝑎𝑙𝑢𝑒𝑜𝑓 𝑒𝑞𝑢𝑖𝑡𝑦30 June

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Value REITs

Growth REITs

annual portfolio return1 July – 30 June

30 June

annual portfolio return1 July – 30 June

Data

• International Developed REITs with viewpoint of European Investor (returns in Euro)

• 23 countries with a total of 1,152 REITs• Use minimum daily trading volume of 0.5 m EUR

to ensure liquidity and positive B/M

050

100150200250300350400450500

1993 1995 1997 1999 2001 2003 2005 2007 2009 2011

REITS with positive BM and min volume

number of REITs

ResultsCharacteristics (Q1 = Value REITs)

*** significant at 1% level

Cumulative Total Returns (1,2,3 year holding)

** significant at 5% level; *** significant at 1% level

TR1 is the average yearly return of holding a value (growth) portfolio for 1 year and then rebalance the portfolio with (possible) new REITs with high (low) book to market multiples. TR02/03 cumulative total return of 2/3 years after portfolio formation

Q1 Q2 Q3 Q4 Q5 Diff. Q1-Q5B/M 2.23 1.06 .84 .65 .36 1.86***

MV (m EUR) 445 598 749 1,079 1,543 1,098***

Q1 Q2 Q3 Q4 Q5 Diff. Q1-Q5TR1 .218 .145 .130 .100 .115 .103 **

TR02 .439 .276 .276 .236 .266 .173 **

TR03 .712 .464 .435 .378 .422 .290***

Explanation (I)Risk based school of thought (Fama and French)• Higher return is a reward for higher risk• Test whether volatility of value REITs is higher

or whether beta within CAPM framework is higher for value stocks

* significant at 10% level** significant at 5% level *** significant at 1% level

Panel A: Risk measured by Standard deviation and Sharpe and Treynor ratioQ1 Q2 Q3 Q4 Q5

St. deviation .259 .209 .204 .190 .220Sharpe ratio .705 .587 .554 .440 .446Treynor ratio .378 .217 .205 .152 .133

Panel B: Market Risk (Beta) CAPM: R i-Rf = ai + bi*(Rm-Rf ) + errai .163 ** .088 * .076 * .047 .052bi .499 .536 ** .495 ** .472 ** .649 ***

Explanation (II)Behavioural school of thought (Lakonishok)• Higher return in value REITs is a result of naive

extrapolation of results from the past to the future

• Test whether growth REITs indeed show higher past performance and whether this changes after portfolio formation and vice versa

• Performance measured as Total Return

Explanation (III)

Pre and post-formation total return performance

** significant at 5% level; *** significant at 1% level

Q1 Q2 Q3 Q4 Q5 Diff Q1-Q5 sig.levelPanel A: Pre-formation Total ReturnsTR -3 .116 .161 .193 .187 .198 -.083TR -2 .090 .164 .172 .161 .204 -.114 **TR -1 .082 .148 .167 .161 .219 -.137 ***

Panel B: Post-formation ReturnsTR 1 .218 .145 .131 .101 .115 .103 **TR 2 .165 .132 .120 .120 .122 .043TR 3 .176 .140 .135 .134 .133 .043TR 4 .159 .121 .135 .147 .148 .010TR 5 .118 .124 .115 .114 .174 -.057

Conclusion• International developed REITs exhibit a significant

value premium of 10.3% (1993-2013) compared to a 8.3% premium Ooi et al. (2007) found in US REITs (1993-2002)

• Value premium is not a reward for additional risk (nor volatility or CAPM model)

• Value premium seems to be a result of naive extrapolation of past performance

Questions?

Thank you for your attention

Average B/MAverage book value of Equity versus market value of Equity by Quintile (Q1=Value, Q5 = Growth)

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suggestionsTransaction costsNet Asset Value vs Book Value of EquityStipulate contribution to the LiteratureKeep it easy (step by step)Controlled for difference in size?