On the Time-Series Properties of Real Estate Investment Trust Betas
Chiang, Kevin C. H., Lee, Ming-Long, Wisen, Craig H., Real Estate Economics
The relation between real estate investment trust (REIT) returns and stock market returns is of significant importance to investors, practitioners and academics. The temporal properties of this relationship have a critical impact on the usefulness of REIT risk estimates and portfolio allocations to this asset class. Recent studies have suggested a decline in the market betas of equity real estate investment trusts (EREITs). This study applies a rigorous statistical test of the hypothesis that the market betas of EREITs have remained unchanged during the 1972 through 2002 time period. There is weak evidence of a downward trend in EREIT betas using a single-factor model; however, the hypothesis is not rejected when using a three-factor model.
The stability of a risky security's market beta is important to those who use the estimated coefficient for performance evaluation, event studies, valuation and asset allocation. A number of recent studies have observed an apparent decline in the market betas of equity real estate investment trusts (EREITs). If the decline is of statistical and economic significance, then the implication is that estimates of EREIT betas that rely upon historical returns are biased upward. Although several explanations have been proposed for the apparent decline in EREIT betas, no formal tests for a significant time trend have been conducted. This article rigorously tests the time-series properties of EREIT betas.
McIntosh, Liang and Tompkins (1991) were the first to detect a decline in EREIT betas during the 1974 through 1983 time period. Khoo, Hartzell and Hoesli (1993) expanded the McIntosh, Liang and Tompkins sample period from 1970 to 1989, and they provided additional evidence of a temporal decline in EREIT betas. Khoo, Hartzell and Hoesli applied a two-sample test for a regime shift under the assumption of time independence. As will be shown below, however, beta innovations are serially correlated. Khoo, Hartzell and Hoesli also found that EREIT betas during the 1982 through 1989 period were significantly lower than during the 1970 through 1981 period. Although the current analysis does not contradict or support the findings of Khoo, Hartzell and Hoesli, it does offer evidence that previous assertions of a temporal decline in REIT betas could be erroneous.
This study is not the first to question the validity of previous evidence of a temporal decline in EREIT betas. Liang, McIntosh and Webb (1995) extended the focus of Khoo, Hartzell and Hoesli by examining intermediate-term variations in beta estimates, and they found significant shifts in return-generating regimes in the vicinity of 1983. Nevertheless, the results of Liang et al. (Figure 10) did not imply a declining trend in EREIT betas since bias in the study's data may have contributed to the absence of a declining trend. (1)
This study employs the Fama and French (1993) three-factor model and the Vogelsang (1998) method to test the null hypothesis that EREIT betas have remained constant over time. The Fama-French three-factor model is selected because Peterson and Hsieh (1997) found that the Fama-French factors helped to explain EREIT pricing and performance. (2) The Vogelsang (1998) test is applied primarily because of the method's generality. This method is useful when EREIT beta innovations are serially correlated and when the nature of the innovations is unknown. These features are desirable while testing for deterministic time trends in EREIT betas because a serial correlation is induced by the use of rolling regressions to obtain time-series estimates of betas. The generality is also beneficial because unit root tests often have very low power.
This study finds weak evidence for a decline in EREIT betas based upon a single-factor model. However, when the three-factor model is used, the declining trend in EREIT betas disappears. This study also uses the tests of Liang, McIntosh and Webb to investigate whether EREIT betas have shifted and, if so, when the changes occurred. …