Paper published: Real Option Value over a Housing Market Cycle

The Journal of Regional Science and Urban Economics accepted a paper for publication, in which John Clapp, Piet Eichholtz and I research the ups and downs of the West Berlin housing market.

The goal of the paper is to single out the value that buyers and sellers attribute to the real option to extend the size of an existing house. We find that the possibility to add more space carries substantial value. Furthermore, we see that this value is highest in times of rising house prices (e. g. 1990-1994 in West Berlin) and disappears when house prices fall. The real options embedded in existing properties therefore significantly contribute to house price volatility.

Get the full paper here.

Villa Freundschaft Berlin Grünewald villa 1902
High and low option value properties in Berlin

New Research: Loss Aversion through Centuries and across Generations

In November, I presented my latest research at MIT’s Center for Real Estate: The paper provides empirical insights into the long-term nature of the loss aversion bias. Using a database of Amsterdam housing transactions spanning 324 years, Piet Eichholtz and I study the question whether loss aversion was present in centuries past, whether its effects were stable across these centuries, and whether the psychological effect of the purchase price on selling behavior eroded with time and through the occurrence of important events.

The purchase price of the house is found to have been a psychological anchor, below which home owners were reluctant to sell their home. This result holds for 17th and 18th century Dutch home owners as well as for those who followed in their wake, but loss aversion appears to get stronger over the centuries. The anchoring power of the purchase price was strong: it survived the death of the original owner when the house passed on to the heirs. It was however diminished by loss realizations in housing transactions in the direct vicinity, and even more so by the occurrence of wars involving foreign occupation. The aversion to a loss relative to the purchase price was also gradually reduced by the time passed since the purchase.

The full paper can be downloaded here.

Rembrandt: Shipbuilder Rijksens and Wife

Fashion has changed, but has investment decision making evolved as well?

Paper out at JMCB: "House Prices and Fundamentals – 355 Years of Evidence"

The Journal of Money, Credit, and Banking accepted one of my papers (joint work with Brent Ambrose and Piet Eichholtz) for publication. We investigate the long run equilibrium of rents and house prices. Abstract below. The full manuscript is available for download at SSRN.

This paper examines the long run relation between prices and rents for houses in Amsterdam from 1650 through 2005. We first demonstrate that these series are cointegrated, a necessary condition for studying movements of the rent-price ratio. We then estimate the deviation of house prices from fundamentals and find that these deviations can be persistent and long-lasting. Lastly, we look at the feedback mechanisms between housing market fundamentals and prices, and find that market correction of the mispricing occurs mainly through prices not rents. This correction back to equilibrium, however, can take decades.

Full paper…