Pricing Upward-Only Adjusting Leases

Posted: 17 May 2002

See all articles by Brent W. Ambrose

Brent W. Ambrose

Pennsylvania State University

Patric H. Hendershott

University of Aberdeen - Centre for Property Research; National Bureau of Economic Research (NBER)

Malgorzata M. Klosek

National Institutes of Health (NIH)

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Abstract

This paper presents a stochastic pricing model of a unique, path-dependent lease instrument common in the United Kingdom and numerous commonwealth countries, the upward-only adjusting lease. In this lease, the rental rate is fixed at lease commencement but will be reset to the market rate at predetermined intervals (usually every five years) if it exceeds the contract rent. We derive a closed form expression for the market rent of a lease with upward-only adjustments. Results indicate what the initial coupon rate on a 10-year lease with one reset should be relative to that on a symmetric up-and-downward adjusting "variable rate" lease under various economic conditions (level of real interest rates and expected drift and volatility of the underlying rental service flow). We also consider the calculation of effective rents when free rent periods are given.

Keywords: leases, real options, effective rents

Suggested Citation

Ambrose, Brent W. and Hendershott, Patric H. and Klosek, Malgorzata M., Pricing Upward-Only Adjusting Leases. Journal of Real Estate Finance & Economics, Vol. 25, No. 1. Available at SSRN: https://ssrn.com/abstract=301079

Brent W. Ambrose (Contact Author)

Pennsylvania State University ( email )

University Park, PA 16802-3306
United States
814-867-0066 (Phone)
814-865-6284 (Fax)

Patric H. Hendershott

University of Aberdeen - Centre for Property Research ( email )

Aberdeen AB24 2UF
Scotland

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Malgorzata M. Klosek

National Institutes of Health (NIH) ( email )

9000 Rockville Pike
Bethesda, MD 20892
United States

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