Testing the Efficiency of the Commercial Real Estate Market: Evidence from the 2007-2009 Financial

Speaker:

Otto van Hemert
Department of Finance
Stern School of Business
New York University

Coordinator:

Dirk Brounen
Department of Finance
Rotterdam School of Management (RSM)
Erasmus University Rotterdam

Type:

ERIM Research Seminar

Subprogramme:

Finance

Location:

T3-42

Date / Time:

November 30, 2009 (Monday) / 15:30-17:00 hours

Abstract:

A CMBX contract is essentially a credit default swap on a pool of Commercial Mortgage-Backed Securities (CMBS). Both CMBX and Real Estate Investment Trusts (REITs) can be thought of as derivative contracts on commercial property values. This creates a tight fundamental link: our structural pricing model for CMBX, which is calibrated to REIT stock and option data, explains more than 86% of the daily price variation of CMBX contracts. We use the CMBX pricing model to document two large short-term deviations from market efficiency; consistent with price pressure by banks hedging their CMBS and commercial loan exposure using CMBX contracts. First, the model mispricing significantly predicts subsequent CMBX, but not REIT, price changes. The effect is economically meaningful: a strategy exploiting the predictability has an annualized Sharpe ratio of 2:35, net of transaction costs. Second, we show that following days with CMBS specific news, the CMBX market overreacts relative to the model for two days, which fully reverts over the next two days.

Download paper

This Seminar has been made possible by support from the Erasmus Research Institute of Management (ERIM).

Contact information:

Dirk Brounen