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Cambridge Finance

 

Credit Availability and Asset Pricing Spirals in Illiquid Markets

David C. Ling, Andy Naranjo, and Benjamin Scheick

Professor David Ling (University of Florida) will be a visitor (under the Investment Property Forum Education Trust visiting fellows scheme) from week beginning 3rd October 2011. David, the McGurn Professor of Real Estate at the Hough School of Business, is one of the leading real estate academics in the world, recent recipient of the top honour awards from both the American Urban Economics and Real Estate Association and the American Real Estate Society. David has a huge mass of publications in finance journals, focussing on real estate tax, real estate asset pricing and the interaction between capital flows and asset prices.

He is presenting a seminar on Thursday 6th October (2pm, Mill Lane Lecture Theatre 1) on Credit Availability and Asset Price Spirals in Illiquid Markets (abstract is below).

Please email Professor Colin Lizieri (cml49@cam.ac.uk) if you wish to attend.

Abstract:

The theoretical framework of Brunnermeier and Pedersen (2009) and Geanakoplos (2003), among others, predicts that funding constraints are likely to play a significant asset pricing role in markets that are highly levered and illiquid. To test these predictions, we use both private and public commercial real estate markets given their relative illiquidity and significant use of leverage in acquisitions. Using vector autoregressive models to capture the short-run dynamics between fluctuations in credit availability and price changes, we find that a tightening in credit availability is negatively related to subsequent price movements in both the private property and public REIT markets. Consistent with the theoretical predictions, we also find that assets trading in the most illiquid segments of the commercial real estate market are highly susceptible to a spiral effect, in which changes in asset prices lead to further changes in the availability of credit. In particular, we document a feedback effect of lagged price changes on subsequent capital availability in the private commercial real estate market, the lowest liquidity quartiles of the public commercial real estate market, and the relatively illiquid market for REIT preferred shares. These results suggest that while leverage is a key factor in determining credit availability pricing effects, the underlying liquidity with which these assets trade is a key factor in determining the likelihood of an asset pricing spiral, with lower liquidity creating the market setting for a spiral effect.

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