What Drives Returns to Euro Area Housing? Evidence from a Dynamic Dividend-Discount Model

33 Pages Posted: 4 Mar 2009

See all articles by Paul Hiebert

Paul Hiebert

European Central Bank (ECB)

Matthias Sydow

European Central Bank (ECB)

Date Written: March 4, 2009

Abstract

We apply a dynamic dividend-discount model to analyse unexpected housing returns in a panel of eight euro area countries which together comprise 90% of euro area GDP. The application of this model allows for a decomposition of house price movements into movements in rent (cash-flow) and expected return news components. The empirical application of the model involves the estimation of a panel vector autoregressive model (VAR) for four variables - excess return to housing, rents, the real interest rate and real disposable per capita income - using quarterly data over the period 1985-2007. This empirical investigation yields two main findings. First, the bulk of the variability of house price movements in the panel of countries analysed can be attributed to movements in the rental yield. Indeed, perturbations to rents appear to result in a one-to-one analogous movement in house prices over the long term once controlling for changes in expected returns. Second, evidence from the dynamic profile of shocks along with the negative co-movement between changing rental yield expectations and changing expected returns on housing assets would suggest that euro area house prices overreact to news.

Keywords: House price, housing rental yield, return decomposition, panel VAR estimation, cash flow news

JEL Classification: R21, C33, G12

Suggested Citation

Hiebert, Paul and Sydow, Matthias, What Drives Returns to Euro Area Housing? Evidence from a Dynamic Dividend-Discount Model (March 4, 2009). ECB Working Paper No. 1019, Available at SSRN: https://ssrn.com/abstract=1337450

Paul Hiebert (Contact Author)

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Matthias Sydow

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

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