The topic of cap rates and treasury spreads morphed into a discussion on the value of technical indicators. From there, it shifted to investor psychology.
Marketwi.se’s last post, “We Are All Just Monkey’s” was a combination of pricing, technical indicators, market efficiency (or lack thereof) and overall investor psychology. One of John’s closing comments reminded us of a recent study by MIT’s Real Estate Research Institute. (We suggest reading John’s post prior to this one, to put the study into proper context.)
We’ll start with Reeder’s comment:
[T]he investor could have booked a small loss on his deal if he had sold it when the market first started falling. Instead the investor chose to wait things out and in the process lost the entire investment.
It’s kind of odd that in real estate it is most common to see the following things:
* Small gains
* Large gains
* Huge losses
I’ve left out the possibility of small losses because when compared against the other three potential scenarios, small losses are a lot less common.
Most likely, this observation was a product of experience, rather than spending countless hours gathering empirical evidence; but the observation is actually more than a result of a single person’s gut instinct.
Way back in 2001, David Genesove and Christopher Mayer were the first to rigorously demonstrate the existence of loss aversion in real estate. At that time, the study was based on the housing market.
This year, Sheharyar Bokhari & David Geltner, members of MIT’s Real Estate Research Institute, published a paper titled Loss Aversion and Anchoring in Commercial Real Estate Pricing: Empirical Evidence and Price Index Implications. (Access the entire study for free on PREA.org.) In this paper, Bokhari and Geltner set out to revisit the Genesove & Mayer study, only this time, cover the commercial real estate sector.
Prior to its completion, “some economists questioned whether behavioral phenomena would play as large a role in a more purely ‘business setting’, and among agents who are experienced professionals in dealing in the market, and therefore whether loss aversion or anchoring would be [as] significant in commercial real estate” as it was in residential.
The study’s findings?
We find that loss aversion plays a significant role in the behavior of investors in commercial real estate. We thus extend the Genesove-Mayer findings to the commercial property market where the participants are “professionals” operating in a more purely business environment (compared to homeowners)[...]
A comment by Joshua accurately noted that institutional investors have access to the most timely and in-depth industry research, but mom-and-pops don’t. So, this must mean that the institutional investor segment should be the least susceptible to the economic pitfalls of loss aversion…. right? Not so, according to Bokhari & Geltner:
Interestingly, we find that the strength of loss aversion behavior among commercial property market participants is actually greater among “institutional” investors (REITs, pension funds, foreign investors) than among smaller private investors (RCA’s “private in-state” category). Contrary to what one might expect and some previous studies have found in other fields, loss aversion pricing appears to be greater among sellers who have more experience in the commercial property market as indicated by their number of deals in the RCA database
Now that is simply bananas….
bananas indeed. when you look a few days back to john’s post of NCREIF returns over 20 years it makes sense that institutions have the most risk aversion when they average a 2.2% annual return. those big shiny assets don’t come cheap and cost a lot to maintain. im over-simplifying things, but that along with the fact they book fees as long as they own/manage the property must have a little something to do with it.
[...] CRE Console: MIT Finds, “Monkeys hate booking losses” [...]