The long term relation between indirect and direct real estate

Using a panel of eight countries, this thesis presents a cointegration relation between direct real estate and indirect real estate in the long run. The presence of cointegration impliesthat two assets are substitutes for investors in the long run. As a consequence, diversification benefits of holding both assets are no longer possible so that only one asset category should appear in the mixed asset portfolio in the long run. On the other hand, two assets are not substitutable in the short run because of their different characteristics in terms of valuation, leverage effects and liquidity. Due to their valuation techniques a lead-lag relation between two assets is observed in the short run. Since the direct real estate index reflects the appraiser valuations which are determined approximately once a year, it falls behind thevalue of the indirect real estate which can be detected through daily supply and demand behaviour of the market. Panel vector error correction results confirm that while lagged indirect real estate returns have a predictive power on current value of direct real estatereturns the reverse is not true which implies that indirect real estate is leading and direct real estate is following variable.