Improved Rish Estimation Using Appraisal Smoothed Real Estate Returns

Abstract

Executive Summary. The use of appraisal-based real estate returns cause real estate risk to be underestimated. This study presents improved risk formulae to adjust for appraisal-smoothing in a quarterly real estate return series. Using the Russell-NCREIF real estate series for the 1980-93 period, we find that the standard risk estimates need to be almost doubled in order to obtain more appropriate real estate risk estimates for use by institutional investors and portfolio managers in mixed-asset portfolio decisionmaking. However, after accounting for reappraisal seasonality, the necessary risk adjustment is found to be an increase of approximately 80% (not quite double).