Short Sales and Fundamental Value: Explaining the REIT Premium to NAV

Abstract

This study explores the role of short sale constraints in explaining the variation in premiums to Net Asset Value (NAV) in REIT pricing. We use proprietary information on short sales between June 2006 and September 2008 to examine how short sales and short sale constraints affect the variation in monthly NAV premium of REITs using a panel vector autoregression. We find that the variation in short sale activity across individual REITs can account for at least one third of the variation in NAV premiums. Short sale constraints tend to be binding when there is strong demand and limited supply of shares to short. Excess demand leads to overvaluation and the correction of the overvaluation explains the under performance of premium REITs.

Keywords: REITs, NAV, Short Sales, Short Sale Constraint, Fundamental Value, Differences