How does liquidity in the financial market affect the real estate market yields?

DOIhttps://doi.org/10.1108/JPIF-03-2018-0020
Pages2-19
Published date12 July 2018
Date12 July 2018
AuthorKyung-Min Kim,Geon Kim,Sotiris Tsolacos
Subject MatterProperty valuation & finance,Property management & built environment
How does liquidity in the financial
market affect the real estate
market yields?
Kyung-Min Kim
Department of Urban Planning, Graduate School of Environmental Studies,
Seoul National University, Seoul, Republic of Korea
Geon Kim
College of Urban Planning and Public Affairs, University of Illinois at Chicago,
Chicago, Illinois, USA, and
Sotiris Tsolacos
Department of Finance, Cass Business School, London, UK
Abstract
Purpose After the Global Financial Crisis in 2008, the impact of expanded liquidity in the financial market
has drawn attention. The purpose of this paper is to examine the relationship between liquidity in financial
markets and office markets across Asian countries. In particular, the research not only examines the effect of
normal liquidity on real estate markets, but also the effects of excess liquidity are specifically highlighted.
Design/methodology/approach This paper uses panel estimation utilizing quarterly data from the first
quarter of 2007 to the fourth quarter of 2015. Taking both time and location dimensions into account allows
for a more precise estimate of the relationship between liquidity and office markets yields.
Findings Per the empirical outcome, an increasing excess liquidity tends to decelerate the value of office
yields in six major Asian office market centers due to the positive effect on commercial real estate value. This
effect is also identified by comparing the difference between the level of fitted yields and actual yields.
Practical implications The results enhance the understanding of commercial real estate yield
determinants. Furthermore, the results can be used to assess the impacts of liquidity on major office markets
in Asia.
Originality/value This paper attempts to uncover the impact of liquidity in financial markets on the office
market yields. To better understand the relationship, the concept of excess liquidity is adopted and further
exploration of each office market is conducted by comparing the fitted yields, which is computed considering
the effects of excess liquidity on yield levels and actual yields.
Keywords Liquidity, Pricing, Office market, Panel analysis, Excess liquidity, Yield
Paper type Research paper
1. Introduction
After the 2008 global financial crisis, many countries implemented expansionary post-crisis
monetary policies. For instance, the Federal Reserve in the USA lowered the federal funds
rate to near zero and authorized a series of large-scale asset purchases of longer-term
securities to increase liquidity in the market. In the case of Japan, its central bank announced
an additional asset purchase program as part of the comprehensive monetary easing
together with virtually zero interest rate policy(Rogers et al., Wright, 2014). The Public
Bank of China also cut its long-term benchmark bank loan, leading to a tremendous
expansion of money supply and bank loans. These expansionary monetary policies have
drawn attention of many researchers resulting in a plethora of debates and explanations
regarding the impacts of global liquidity.
According to the literature, increased liquidity of financial markets is considered to have
substantial impacts on real estate markets; some recent studies have addressed how
liquidity in the financial markets affects commercial real estate markets (Chervachidze and
Wheaton, 2013; Duca and Ling, 2015; McAllister and Nanda, 2016). However, even though
Journal of Property Investment &
Finance
Vol. 37 No. 1, 2019
pp. 2-19
© Emerald PublishingLimited
1463-578X
DOI 10.1108/JPIF-03-2018-0020
Received 26 March 2018
Revised 15 May 2018
Accepted 17 May 2018
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1463-578X.htm
2
JPIF
37,1
liquiditys effect on yield is verified, more consideration is needed on measures that can
promptly reflect liquidity of financial markets.
This research sheds light on the relationship between monetary liquidity and real estate
markets across Asian countries. In particular, not only does the research examine the effects
of normalliquidity on real estate market, but it also examines the effects of excess
liquidity. This is because excessliquidity (defined as the amount of liquidity over the
needs of the real economy) is expected to propel market activity, affecting real estate market
prices and risk premiums. The proxies of monetary liquidity here are represented by
quantity measures (broad money supply).
This study focuses on six major office markets in Asia: Tokyo, Shanghai, Hong Kong,
Seoul, Taipei and Singapore. The panel model used in the study includes variables assessing
normal liquidity, excess liquidity and key determinants of yields. The data used in the
econometric analysis are primarily based on Real Capital Analytics (RCA) database
and Bloomberg.
This papers empirical result contributes in two ways. First, the study further explores
the determinants of commercial real estate yields. Second, it identifies the impacts of
liquidity in financial markets on the commercial real estate markets by analyzing major
office markets in Asia.
In Section 2 of the paper we review key studies on the empirical study of yields and on
monetary liquidity and asset prices. Section 3 outlines our methodology and Section 4
presents the data we use. The empirical results are discussed in Section 5. Section 6
compares actual and implied values for the purpose of mispricing. Section 7 concludes.
2. Literature review
2.1 Determinants of yields
Yields are defined as a ratio of net operating income over the value of the property.
The income flow and the property value play an essential role in making real estate
investment decisions, and thus determinants of yields have been the focus of a variety of
previous research projects.
Sivitanidou and Sivitanides (1999) examine what factors affect the office yield through
investigating the relationship between office markets and capital markets, utilizing a data
set of 17 US cities from 1985 to 1995. They divide their work into three parts: local-fixed
(time-invariant) office m arkets, time-variant loca l office markets and time-v ariant
national capital markets. The variables for local-fixed office markets include central
business district office inventory share, office tenant-demand diversity, government tenant
mix and metropolitan occupied office stock, while time-variant local office market
variables are proxied by lagged vacancy index, office employment growth stability, lagged
inflation-adjusted rent growth and net absorption of office space. Variables of time-variant
national capital market include lagged expected inflation and lagged stock returns. Through
this analysis the authors conclude that local factors might make bigger impacts on yields
than national capital-market effects.
Sivitanides et al. (2001) examine determinants of yields in four property types: office,
industrial, retail and apartment. They use a metropolitan-level sample of yields in the USA
and construct an estimation model that includes real rent index, annual percent change in
the real rent index, ten-year Treasury rates as a proxy for risk-free rates and annual percent
change in the consumer price index (CPI). They argue that movements in market-specific
yields are shaped by the time path of local rental growth and common national influences:
interest rates and CPI.
Hendershott and MacGregor (2005a) develop a theoretical model linking the real estate
property and the stock market. They test how the stock yield (the dividend/price ratio) affect
UK office and retail yield, and their error correction models reveal that stock yield positively
3
Liquidity in the
financial
market

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