Jan A. deRoos

Recovery of Real Estate Returns for Portfolio Allocation

Appraisal-based return indexes may not approximate the true real estate return distributions because of understated return volatility. Recovery of returns from reported, appraisal-based returns may be possible by evoking models to correct for appraisal-based smoothing of the second moment. Because recovery intentionally alters the volatility of the reported return distribution and the correlations among assets in the portfolio, the weights to real estate are likely affected. Our examination of the portfolio implications of altering the return distribution indicates that weights may be quite sensitive to the effects of recovery across a reasonable range of correlation regimes. A comparative analysis of several recovery models reveals that all models achieve the objective of inflating the volatility of reported returns. However, the models also change the mean of the return distribution, which either counteracts or magnifies the effect of the volatility change on allocations. These findings bring into question the applicability of recovery models in their current form.

Hotel Management Contracts—Past and Present

Conceived as a relatively simple arrangement that allowed international expansion by hotel chain operators without the risk of real estate ownership, the management contract has become an intricate and nearly essential element of the contemporary hotel industry. While trends in management contracts have shifted with the relative bargaining power of owners and operators, the key to a successful contract is aligning the interests of all parties. Owners seek some reasonable guarantee of cash flow, while operators need assurance that they will be able to benefit from their continued operation of a property. In place of a single document, management contracts now include numerous concurrent agreements that address such matters as real property rights; intellectual property rights; hotels as financial assets; hotels as operating businesses; and the needs of owners, operators, and lenders.

The ADR Rule-Of-Thumb as Predictor of Lodging Property Values

Abstract In a positive context, asset valuation models may be judged on the basis of their predictive ability rather than on the number and elegance of the underlying assumptions. The Average Daily Rate (ADR) rule-of-thumb has been used for decades as a quick way of estimating hotel and motel room rates and, more recently, as a simple gross-income multiplier model for predicting values of lodging properties. This study examines how well the ADR rule-of-thumb model predicts property values. The results of our comparative analysis of estimates from the ADR model with those from a hedonic valuation model indicate that the ADR model performs well in the aggregate, but is an inconsistent estimator at various levels of disaggregation, such as when property subsamples were organized by number of rooms, age, occupancy rate and number of restaurants.

Pure price changes of lodging properties.

Excerpt] In this article, we report on research to measure the temporal changes in the prices of lodging properties. Our specific objective is to present the results of an ongoing study at the Cornell University School of Hotel Administration to model and index the selling prices of lodging properties. The Cornell-index study reveals that prices responded quickly to changes in the tax treatment of real estate contained in the 1986 Tax Reform Act, and those prices have remained below 1985 levels ever since-this despite well-publicized Japanese investment in U.S. real estate.

Measuring Lodging-Property Performance: A Difficult Task with Imperfect Results

Abstract While no indices currently exist for investors to measure and compare periodic returns on lodging properties—unlike for other classes of real estate—there is a model in the works that may remedy the situation.

Investment Values of Lodging Property

The traditional approach to valuing lodging properties, using discounted-cash-flow techniques, makes sense because hotels can furnish a history of financial performance. While it is true that the discounted-cash-flow approach yields a reasonable approximation of value, other factors can be applied to refine property valuation. When lenders consider a propertys value as potential collateral, for instance, they augment their analysis of a propertys value to take into account loan-to-value and debt-service-coverage ratios. Investors, meanwhile, may consider the effects of taxes on cash flow and cash reserves in their estimate of a propertys value. The effects of taxes and lender criteria are modeled to show the resulting changes in a propertys estimated value. One conclusion that is possible when the effect of taxes is considered is that tax laws tend to boost the return on, and therefore the possible purchase price of, hotel properties.

Investment values of lodging property: modeling the effects of income taxes and alternative lender criteria.

When taxes and lender criteria are considered, the estimated value of a hotel property can change. The effect of taxes, for instance, may well be to increase to a potential buyer’s bid for a given property.

Development in the '80s: The Facts of Life after Tax Reform:

U.S. hotel development now consists of deals that are built to make money, not tax breaks. Heres a look at the many complications that can beset hotel developers

Investment values of lodging property: Proof of value for selected models

This article provides a proof of value for two lodging-property investment-value models presented by the authors in the December 1995 Cornell Quarterly (Volume 36, Number 6; pp. 62-69). Those models allow one to study the effects of two distinct lender-underwriting criteria: the loan-to-value ratio and the alternative debt-service-coverage ratio. The proofs verify the accuracy of those models and demonstrate the ability of the models to produce accurate, useful estimates. The proof is structured as a net-present-value problem that solves for value given the other input values (from the previous article).

Diversification Benefits of REIT Preferred and Common Stock: New Evidence from a Utility based Framework

We study the diversification benefits of REIT preferred and common stock using a utility based framework in which investors segment based on risk aversion. Taking the view of a long run investor, we conduct our analysis using data from 1992 to 2012. We examine optimal mean-variance portfolios of investors with different levels of risk aversion given access to different classes of assets and establish three main results. First, REIT preferred and common stock provides significant diversification benefits to investors. REIT common stock helps low risk aversion investors attain portfolios with higher returns, while REIT preferred stock helps high risk aversion investors by providing a venue for risk reduction. Both asset classes receive material allocations over plausible levels of risk aversion. Second, while REIT preferred stock appears to behave somewhat like a hybrid debt/equity asset, its risk/return profile appears to not easily be replicated by those asset classes. When given the opportunity, investors will reduce allocations to REIT common stock and investment grade bonds and invest in REIT preferred stock. Finally, realistic investor constraints matter empirically. Conclusions drawn from the empirical analysis are markedly different under these constraints compared to the classical unconstrained setting.