The Conditional CAPM and Time Varying Risk Premium for Equity REITs

Abstract

Given the recent much interest in REITs, we investigate if REITs have provided investors with superior risk/return trade off. Utilizing a conditional CAPM, we find that equity REITs have outperformed the market with an average abnormal annual return of 2.25% with a low time-varying beta of around .24 during June 1995 to December 2003 period. We utilize time-varying risk premium models for equity REITs with GARCH specifications and find that both the ARCH and GARCH effects are significant in our estimated models. In addition, the volatility shocks are quite persistent. Our results show that the market returns and the first order autocorrelation help explain the excess returns of equity REITs. However, the movement of interest rates contributes to equity REIT returns only when the market return is not present in our models.

Keywords: REIT, risk premium, conditional CAPM