Michael Haddock Stockholm 25 th June 2009 Are prime rents an adequate proxy for ‘the market’?

Michael HaddockStockholm 25th June 2009

Are prime rents an adequate proxy for ‘the market’?

The Problem1

CB Richard Ellis | Page 3

The Problem

Opaque markets

Incomplete information on transactions

Incomplete information on available properties

Short history of professional research

If one wants to look at the evolution of markets over more than the last cycle, then the only data available is prime rents and prime yields…

…but are they indicative of the behaviour of the market as a whole.

CB Richard Ellis | Page 4

The Problem

Need to test the hypothesis that prime indices are an adequate proxy for ‘the market’ for the purposes of

– Measuring market behaviour

– Forecasting market performance

– Investment strategy

Analysis based on data for Madrid, Amsterdam and London

Madrid2

CB Richard Ellis | Page 6

The Data

Madrid Leasing transactions since 1990

80%+ of all transactions

Date (quarter), Headline rent, Floor area, Submarket

Quarterly prime rent since 1973

CB Richard Ellis | Page 7

0

100

200

300

400

500

600

700Q

1 19

90

Q1

1991

Q1

1992

Q1

1993

Q1

1994

Q1

1995

Q1

1996

Q1

1997

Q1

1998

Q1

1999

Q1

2000

Q1

2001

Q1

2002

Q1

2003

Q1

2004

Q1

2005

Q1

2006

Q1

2007

Q1

2008

€ /s

q m

/ann

um

Prime Rent

Floorspace Weighted Average

Peak Rent

Madrid data series

Source: CB Richard Ellis

CB Richard Ellis | Page 8

Madrid Conclusions

Peak (objective) and Prime (subjective) track closely. No evidence of observer bias.

– prime rents appear to add value

Turning points track closely for Prime and Average

– correlation 0.90

– prime rent may lead the market by 3-6 months

Volatility is similar for prime and average

– prime may be slightly more volatile

Short-term growth rates are similar

Long-run growth rates seem to diverge

Amsterdam3

CB Richard Ellis | Page 10

The Data

Amsterdam Leasing transactions since 1985

c55% of all transactions

Date (year), Headline rent, Floor area

Quarterly prime rent (since 1973)

ROZ/IPD annual rental growth (since 1994)

CB Richard Ellis | Page 11

0

50

100

150

200

250

300

350

400

45019

85

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

2007

(€ /

sq m

/ann

um)

0

20

40

60

80

100

120

140

160

Inde

x (1

994

= 1

00)

Floorspace Weighted Average

Simple Average

Prime Rent

Peak Rent

IPD (Index) rhs

Amsterdam data series

Source: CB Richard Ellis

CB Richard Ellis | Page 12

Amsterdam Conclusions

Peak (objective) and Prime (subjective) track closely. No evidence of observer bias.

– prime rents appear to add value

Turning points track closely for Prime and Average

– correlation of 0.98

– no evidence that prime leads (although annual data)

Volatility is similar for prime and average

– prime may be slightly more volatile

Long-run growth rates seem to diverge

CB Richard Ellis | Page 13

Amsterdam Conclusions v IPD

Prime rent shows a better correlation with IPD rental value growth than the peak or average rent series

– correlation of 0.98 at t-1

Prime and average rents are a leading indicator (by 1 year) of IPD rental value growth

IPD rental value growth is less volatile than prime rents

Long-run growth rates seem to diverge

Is this evidence of valuation smoothing and lag?

London4

CB Richard Ellis | Page 15

The Data

London Quarterly prime rent (since 1976)

IPD Monthly rental value index (since 1985)

CB Richard Ellis | Page 16

0

20

40

60

80

100

120

140Q

4 19

86

Q4

1987

Q4

1988

Q4

1989

Q4

1990

Q4

1991

Q4

1992

Q4

1993

Q4

1994

Q4

1995

Q4

1996

Q4

1997

Q4

1998

Q4

1999

Q4

2000

Q4

2001

Q4

2002

Q4

2003

Q4

2004

Q4

2005

Q4

2006

Q4

2007

Q4

2008

(£ /

sq f

t/an

num

)

0

50

100

150

200

250

(Ind

ex Q

4 19

86 =

100

)

Prime CityPrime West EndIPD City Rental Value GrowthIPD Mid-town & West End Rental Value Growth

London data series

Source: CB Richard Ellis

CB Richard Ellis | Page 17

London Conclusions - City

Good correlation (0.87) between prime and IPD

Prime rents less volatile than IPD!

Prime rent is a leading indicator of IPD by 6-9 months

– the lead time appears to be shrinking

Short-term growth rates are similar

Long-run growth rates seem to diverge

CB Richard Ellis | Page 18

0

20

40

60

80

100

120

140Q

4 19

86

Q4

1987

Q4

1988

Q4

1989

Q4

1990

Q4

1991

Q4

1992

Q4

1993

Q4

1994

Q4

1995

Q4

1996

Q4

1997

Q4

1998

Q4

1999

Q4

2000

Q4

2001

Q4

2002

Q4

2003

Q4

2004

Q4

2005

Q4

2006

Q4

2007

Q4

2008

(£ /

sq f

t/an

num

)

0

50

100

150

200

250

(Ind

ex Q

4 19

86 =

100

)

Prime CityPrime West EndIPD City Rental Value GrowthIPD Mid-town & West End Rental Value Growth

London data series

Source: CB Richard Ellis

CB Richard Ellis | Page 19

London Conclusions - City

Weaker correlation (0.80) between prime and IPD

Prime rents much more volatile than IPD!

Prime rent is a leading indicator of IPD by 3-6 months

The relationship changes radically after 2003

Conclusions5

CB Richard Ellis | Page 21

Conclusions

Based on these three markets prime is an adequate proxy for ‘the market’ in the office sector

Turning points and volatility are similar

No evidence of observer bias in subjective prime rents

Prime may lead the market slightly

Prime appears to lead valuation based indices

The relationship can break down under some circumstances

Further Research6

CB Richard Ellis | Page 23

Further Research

Analysis of more cities necessary to conclusively justify prime rents

Other sectors may (indeed probably will) behave differently

The long-term difference in growth rates needs to be investigated:

– is it structural

– is it cyclical

Prime yields!

Michael HaddockStockholm 25th June 2009

Are prime rents an adequate proxy for ‘the market’?