An Analysis of Hotel Real Estate Market Dynamics
Gallagher, Mark, Mansour, Asieh, The Journal of Real Estate Research
This article is the winner of the Real Estate Investment/Portfolio Management manuscript prize (sponsored by The RREEF Funds) presented at the 1999 American Real Estate Society Annual Meeting.
After providing a conceptual analysis of national hotel cycles, metro level hotel market dynamics are examined using various measures of supply and demand volatility, and historical revenue per available room (REVPAR) performance. Cluster analysis is used to provide a more rigorous classification of hotel markets in relatively homogeneous groups. A clustering algorithm is applied to REVPAR growth across fifty-eight metro areas. Using discriminant analysis, each cluster is then linked to various economic characteristics. Five hotel market clusters are identified with differences in various employment location quotients, employment SIC categories and employment growth largely determining the cluster groupings. This analysis can be used to improve hotel portfolio diversification strategies for both real estate investment trusts and direct-side equity investors.
Despite growing ownership interest by both direct equity investors and real estate investment trusts (REITs) in hotel real estate, there is relatively limited macroeconomic research on hotel property market dynamics. Most existing macro models of hotel demand and supply fundamentals are housed in research departments of the larger consulting firms. PricewaterhouseCoopers and F. W. Dodge/McGraw-Hill have been leaders in providing econometric forecasting models of hotel supply and demand, both at the national and regional levels. As such, much of the hotel macro-level research is proprietary with limited formal analysis by academic researchers. Moreover, many real estate researchers feel that hotels are more a management-intensive business rather than a distinct real estate asset class. Therefore, the real estate aspects of hotel investment have been largely ignored.
In this article, we provide a conceptual examination of the nature of hotel real estate, focusing on its cyclical behavior both on a national and a regional level. In the next section, the long run national hotel real estate cycle is compared to that of the office market. The following section compares hotel market dynamics at the metro level using various measures of supply and demand volatility followed by an analysis of historical REVPAR performance. Next, cluster analysis is used to develop relatively homogeneous groupings of the metropolitan hotel markets. Subsequently, discriminant analysis is applied to link various local economic variables to the cluster groupings. Clustering of local hotel markets may potentially benefit hotel real estate portfolio managers to optimize their diversification strategies across geographies and to better evaluate regional hotel market cycles.
Real Estate Market Cycles: Empirical Evidence
The predominant focus of existing empirical research on commercial real estate market dynamics has been on office space. This is partly because office markets have the most detailed and reliable information available of all commercial property markets. Much of the research on office markets has concentrated on supply and demand modeling (Rosen, 1984), the relationship between rent levels and vacancy rates (Hekman, 1985; Shilling, Sirmans and Corgel, 1987; and Wheaton and Torto, 1994), and office market cycles (King and McCue, 1987; Wheaton, 1987; Voith and Crone, 1988; and Grenadier, 1995). For a complete review of the office market literature, see Hysom and Crawford (1997) and for a complete review of office market dynamics, see Clapp (1993).
One of the main observations regarding the dynamic behavior of office markets has been the periods of persistently high and low vacancy rates. For example, in contrast to the housing market, fluctuations in office vacancy are far more pronounced and persist for many periods. …