Lanterna Rally

Author: Sheharyar Javaid Bokhari

Publisher:

Published: 2012

Total Pages: 154

ISBN-13:

This dissertation is a collection of three essays in real estate finance. In the first essay, we observe that between 1985 and 2007, the share of household mortgage debt as a proportion of the total value of housing in the US increased substantially from 30% to an all-time high of 50%. With the decline in house prices, these high levels of leverage increased the propensity at which households defaulted. We examine household decisions on mortgage leverage using new extensive loan-level data from Fannie Mae over the sample period 1986 to 2010. We conceptualize a market for leverage per se and develop a theory of leverage demand-and-supply. Empirically, we estimate an interest rate elasticity of leverage demand of -0.37 or, equivalently, a movement along the demand curve from an r-LTV pair of (10%, 72%) to that of (5%, 85%). We find that leverage demand was cyclical and responsive to economic events but without a general trend. By contrast, leverage supply shifts in the form of lower mortgage interest rates were concurrently associated with higher average loan-to-value ratios. We find that in MSAs with higher house prices, households borrowed more and bought equally more expensive houses. That left leverage unchanged but raised households' risk of illiquidity by increasing their loan-to-income ratios. In MSAs with high house price volatility, we find that both leverage demand and supply were lower. We also identify that younger, poorer and less credit-worthy borrowers demand more leverage than their counterparts. In the second essay, co-authored with David Geltner, we document that loss aversion behavior plays a major role in the pricing of commercial properties, and it varies both across the type of market participants and across the cycle. We find that sophisticated and more experienced investors are at least as loss averse as their counterparts and that loss aversion operated most strongly during the cycle peak in 2007. We also document a possible anchoring effect of the asking price in influencing buyer valuation and subsequent transaction price. We demonstrate the importance of behavioral phenomena in constructing hedonic price indices, and we find that the impact of loss aversion is attenuated at the aggregate market level. This suggests that the pricing and volume cycle during 2001 - 2009 was little affected by loss aversion. In the third essay, also co-authored with David Geltner, we present a technique to address the problem of data scarcity in the construction of high-frequency real estate price indexes. We introduce a two-stage frequency conversion procedure, by first estimating lower-frequency indexes staggered in time, and then applying a generalized inverse estimator to convert from lower to higher frequency return series. The two-stage procedure can improve the accuracy of high-frequency indexes in scarce data environments. The method is demonstrated and analyzed by application to empirical commercial property repeat-sales data.