Predicted property investment returns: risk and growth models
| Pages | 580-588 |
| DOI | https://doi.org/10.1108/JPIF-07-2019-0096 |
| Date | 20 August 2019 |
| Published date | 20 August 2019 |
| Author | Nick French |
| Subject Matter | Property valuation & finance,Real estate & property |
Predicted property investment
returns: risk and growth models
Nick French
Real Estate Valuation Theurgy, Frilsham, UK
Abstract
Purpose –The purpose of this paper is to discuss the principal measures of performance used in property
and other investment types. In particular, the briefing will explore the relationship of the expected IRR with
the initial return, highlighting the role of growth in the investment dynamic.
Design/methodology/approach –This education briefing is an overview of investment growth models
with worked examples.
Findings –The analysis of property growth models is akin to the Fisher and Gordon growth models used in
other finance markets.
Practical implications –This comparison of the models can work for all forms of investment. Similarly, instead
of looking at the overall return as the measure of comparison (expected vs required), it is possible to work
backwards and deduce market expectations and compare these with the investors view on those variables.
Originality/value –This is a review of existing models.
Keywords Growth, Property investment, Target rate, Expected rate of return, Internal rate of return,
IRR, Performance measurement
Paper type General review
Introduction
In previous education briefings (French and Patrick, 2015; French and Patrick, 2016), we
looked at the range of yields and benchmarks that are used in the finance world developing
the theme to concentrate upon the internal rate of return (IRR). In these briefings, we
discussed the role of previous performance of similar investments in influencing an
investor’s assessment of the predicted performance on a new investment. And, whilst past
performance is no guarantee of future performance, it is an important influence on the
measurement of the financial attractiveness of an investment. But it is only with hindsight
that an actual assessment of an investment’s performance can be made.
Predicted returns
The important thing to note about measures of performance is that they are yields/returns
after the event. That is to say they are based upon figures that that the investor has actually
received (or is assumed to have received) over the preceding time period.
This is very different to the analysis of an investment prior to purchase. Here the cash
flows will all be best estimates and only if these are achieved (or exceeded) over the lifetime
of the investment will the investor achieve the level of return required. As discussed
previously, the most used benchmark yield, looked at in advance of a purchase, is the target
rate or expected IRR.
Risk and growth
Any investment will only become a good investment if it achieves, or exceeds, the expected
returns that were factored into the pricing of the investment at the time of purchase. If the
cash flow turns out to be exactly as predicted, then assuming the asset was rationally
priced, the investor will have achieved exactly the target rate of return (required rate of
return) they had hoped. If the cash flow is higher than expected, the actual return will have
been greater than the target rate; if the cash flows are less than expected, the actual return
will be less than the target return.
Journal of Property Investment &
Finance
Vol. 37 No. 6, 2019
pp. 580-588
© Emerald PublishingLimited
1463-578X
DOI 10.1108/JPIF-07-2019-0096
Received 19 July 2019
Accepted 19 July 2019
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1463-578X.htm
580
JPIF
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