Monetary Integration and Real Estate Markets: The Impact of Euro on European Real Estate Equities

Abstract

This paper assesses the impact of the monetary integration project on different types of stock returns in Europe. In order to isolate European monetary factors, the impact of global equity integration is investigated. European countries are sub‐divided according to the differences in the timing and degree of monetary integration. Analysis shows that national equity indices are strongly influenced by global market movements, with a European stock factor providing additional explanatory power. The global and European factors explain small cap and real estate stocks much less well – suggesting an increased importance of local and national drivers. However, there is little evidence to suggest that monetary integration is causing the phenomenon. For all sectors investigated, the European factor affects non‐Eurozone members and non‐EU members in the same way as Eurozone members. Further, the importance of global and European factors has almost invariably increased over time. For real estate equities, the largest increase in correlation was for non‐Eurozone and non‐European Union markets. One possible interpretation is that broader regional economic integration rather than more narrow monetary integration is driving the European factor.

Keywords:

• European monetary integration
• real estate equities
• convergence

Notes

1. However, we note that a falling beta does not per se mean less linkage. It may mean lower relative risk. The signifier would be a falling r‐squared or falls in the significance of the beta.

2. One recurring exception is Germany, where we believe there may be data limitations due to the presence and significance of open‐ended funds – corrected for in this paper.

3. Differences in the performance of large and small cap stocks are in part explained by the existence of institutional and professional investor tracker funds which, at pan‐European and global levels, are dominated by larger firms, driving common movement patterns among those stocks. However, it should be noted that the performance of the small cap sector was significantly influenced by technology stocks in the latter half of the 1990s and may not be a complete benchmark for property companies.

4. We note the concerns over orthogonalization procedures set out in Brooks and Tsolacos (2000).

5. Further, the conversion to dollars raises the possibility that apparent increases in market integration result from the coordination of dollar–Euro movements by comparison to movements of the separate currencies. Chelley‐Steeley and Steeley (1999) use dollar denominated returns but report that there was little difference in results when home‐country denominated returns were used. Myer et al. (1997) argue that exchange‐rate adjusted returns provide stronger evidence of structural change but found that in three or four cases there were no differences in Johansen test results for cointegration between nominal, real or exchange‐rate adjusted series. Similarly, Eichholtz et al. (1998) report no difference between US dollar and local currency results in their investigation of continental factors in real estate returns.

6. Given the focus of this paper, the choice of countries for inclusion in the analysis was in part determined by the existence of reliable real estate and small cap stock data.

7. Since there are known problems with the DataStream property market series, we investigated the use of alternative sources. Two sources were available for property company data: Global Property Research (GPR) and the European Public Real Estate Association (EPRA) both of whom collect and analyse the stock market performance of public listed real estate firms.

8. These are significantly different from zero at the 0.05 level and beyond.

9. Results of the Chow breakpoint tests for all three asset types are available from the authors on request.

10. The high explanatory power for the UK may be due to its large weighting in the index.