Real Estate Risk: A Forward Looking Approach

Abstract

Executive Summary: In this paper we argue forcefully that real estate is a predictable asset class (unlike stocks and bonds} and propose a forward-looking methodology for evaluating real estate market risk. Using a modern time-series modeling approach, VAR, we argue that it is possible to quantify such risk, as the standard error of the forecast for each variable in a real estate model. Subsequently, we outline an approach for assessing income and value risk in commercial real estate, based on the premise that the most important source of such risk is the market’s fundamentals. Finally we demonstrate the application of this approach in generating confidence bands for NOI and property values for specific markets. 1.