Asset Productivity, Local information Diffusion, and Commercial Real Estate Returns

Abstract

An extensive literature finds that indices of returns on equity real estate investment trusts (REITs) predict return indices in the private commercial real estate (CRE) market. Using a novel geographically weighted proxy for the quarterly performance of the property types within the local markets in which a REIT is invested, or property portfolio return (PPR), we find a “private predicts public” result in a cross-sectional, firm-level context. This finding suggests that geographically dispersed information and investors’ limited attention can delay timely stock price adjustments. Our findings also suggest it is the diffusion of information about “local” price changes, rather than local supply elasticities, regulatory constraints, the degree of local information risk, current rental income, or local liquidity that predicts REIT returns. The PPRs associated with REIT allocations to major “gateway” markets are more predictive of REIT returns than the property portfolio returns produced by allocations to secondary and tertiary markets. This study improves our understanding of the speed at which “local” information about the perceived productivity of a firm’s assets is capitalized into stock prices.

Keywords: Commercial real estate returns, Local information diffusion, Return predictability, REITs

JEL Classification: G11, G12, D82, R11