Dissecting the 2007-2009 Real Estate Market Bust: Systematic Pricing Correction or Just a Housing Fad?

Abstract

We use a flexible Bayesian model averaging method to estimate a factor pricing model characterized by structural uncertainty and instability in macro-financial factor loadings and idiosyncratic risks. We propose such a framework to investigate key differences in the pricing mechanism that applies to residential vs. non-residential real estate investment trusts (REITs). An analysis of cross-sectional mispricings reveals no evidence of pure housing/residential real estate abnormal returns inflating between 1999 and 2007, to subsequently collapse. In fact, all REITs sectors record increasing alphas during this period, and show important differences in the dynamic evolution of risk factors exposures.

Keywords: I-CAPM, Mispricing, REIT, Model Uncertainty, Stochastic Breaks, Bayesian Econometrics

JEL Classification: G12, E44, C11, C58