Another Hunt for the Capital Structure Puzzle: Leverage and Return Relationship in the REIT Market27.06.2009Ralf Hohenstatt, dipl. econ.,Ph.D. student at the Chair of Real Estate Management
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Schedule:
1. Motivation for the investigation
2. Related literature
3. Empirical Analysis
4. Empirical Results
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Motivation for the investigation
1. Mentoring of a diploma thesis about Capital Structure of REITs
2. Search for a proper research area for my dissertation
No relationship between Sharpe-Ratio (dependent variable)
and leverage in a panel regression
No consideration of MB, Size, ROA
No consideration of joint determination or interactions of leverage and other variables
Challenging Econometric Analysis and data availability (SNL)
According to previous studies (next slide) expectation of consistent results
was promising
3. Financial Crisis raises again questions concerning debt
Why REITs?
Good data availability of US-REITs
Homogeneity due to legislation and focus on one industry
REITs have better possibility to collateralize debt than any other industry
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Related Literature
1. Barclay, Marx and Smith (2003): The Joint Determination of Leverage and Maturity
Focus on identification of endogenous variables Development of firm value as a function of maturity, leverage, investment opportunities
and regulatory environment
3. Giambona, Harding and Sirmans (2007): Explaining the Variation in Reit Capital Structure: The Role of Asset Liquidation Value
System of two equations: Leverage and Debt Maturity Focus on leverage and liquidation value
2. Ooi and Liow (2004): Risk-Adjusted Performance of Real Estate Stocks โ Evidence from Developing Markets
Important paper for the explanation of the performance of real estate companies Combination of balance sheet data and market environment as explanatory variables
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Empirical Analysis: the variables
1. Sample: 306 US REITs, 1993-2008, quarterly frequency, 2.873 observations (missing data)
2. Dependent Variables:
Total Excess Return:
Leverage (market based):
3. Independent Variables:
* US-Treasury Bond with 6 months to maturity
Time Dummies for booms and busts, Property Focus Dummies, S&P500 Composite, FTSE/NAREIT All
REITs, Size, Sizeยฒ, Profitability/ROA, MB/Growth Opportunities, Income Growth, portion of senior hedged
debt, Asset Maturity, Asset Tangibility
Debt Maturity:
Credit Access: equals 1 if a REITs has a credit rating von S&Pยดs, Moodyยดs or Fitch, 0 otherwise
for t = {12, 24, 36, 48, 60, 72}
๐๐๐๐ญ = ๐๐ญ๐จ๐๐ค๐ฉ๐ซ๐ข๐๐๐ญโ ๐๐ญ๐จ๐๐ค๐ฉ๐ซ๐ข๐๐๐ญโ๐ + ๐๐ข๐ฏ๐ข๐๐๐ง๐ ๐ฉ๐๐ซ ๐๐ก๐๐ซ๐๐ญ๐๐ก๐๐ซ๐๐ฉ๐ซ๐ข๐๐๐ญโ๐ โ ๐๐๐ญโ
๐๐๐ฏ๐๐(๐ญ) = ๐๐จ๐ญ๐๐ฅ ๐๐๐๐ญ๐ญ๐๐๐ซ๐ค๐๐ญ ๐๐๐ฉ๐ข๐ญ๐๐ฅ๐ข๐ฌ๐๐ญ๐ข๐จ๐ง๐ญ
๐๐๐ญ = ฯแบ๐๐๐๐ญ ๐ฆ๐๐ญ๐ฎ๐ซ๐ข๐ง๐ ๐ข๐ง ๐ญ ๐ฆ๐จ๐ง๐ญ๐ก๐ฌโ๐ญแป๐ญ ๐๐จ๐ญ๐๐ฅ ๐๐๐๐ญ๐ญ
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Endogeneity or Joint Determination of regressors
TERTER LevLev
MBMB
SIZESIZE
ProfitabilityProfitability
DebtMaturity
DebtMaturity
FTSE/NAREIT, S&P500, Property Focus, Time Dummies
Asset Tangibility, Asset Maturity, Rating, Earnings Growth
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Solution: system of simultaneous equations
๐๐๐๐ข๐ญ = ๐๐ +๐๐๐๐๐ข๐ญ+ ๐๐๐๐ข๐ณ๐๐ข๐ญ+ ๐๐๐๐ซ๐จ๐๐ข๐ญ๐๐๐ข๐ฅ๐ข๐ญ๐ฒ๐ข๐ญ+ ๐๐๐๐๐ฏ๐ข๐ญ+ ๐๐๐๐๐ฏ๐๐ข๐ญ+ ๐๐๐๐๐ฏ๐ข๐ญโ๐๐๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ+
+ ๐๐๐๐๐แบ๐๐๐๐๐๐๐แป+๐๐๐๐๐แบ๐๐๐๐๐แป๐ข๐ญ+ ๐๐ข๐๐ซ๐จ๐ฉ๐๐ซ๐ญ๐ฒ ๐ ๐จ๐ฎ๐๐ฌ๐ข + ๐๐ฃ๐๐๐ข๐ฆ๐ + ๐ฎ๐๐๐,๐ข๐ญ๐๐
๐ฃ=๐๐๐๐๐ข=๐
๐๐๐ฏ๐ข๐ญ = ๐ ๐ + ๐ ๐๐๐๐ข๐ญ+ ๐ ๐๐๐ข๐ณ๐๐ข๐ญ+๐ ๐๐๐ง๐๐จ๐ฆ๐ ๐๐ซ๐จ๐ฐ๐ญ๐ก๐ข๐ญ+ ๐ ๐๐๐๐๐ญ๐ข๐ง๐ ,๐ข๐ญ+ ๐ ๐๐๐๐๐ข๐ญ+ ๐ ๐๐๐ฌ๐ฌ๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ โ๐๐๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ+ ๐ ๐๐๐๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ+ ๐ ๐๐๐ฌ๐ฌ๐๐ญ ๐๐๐ง๐ ๐ข๐๐ข๐ฅ๐ญ๐ข๐ฒ๐ข๐ญ+ ๐ ๐ข๐๐ซ๐จ๐ฉ๐๐ซ๐ญ๐ฒ ๐ ๐จ๐ฎ๐๐ฌ๐ข๐ญ
๐๐๐ข=๐ + ๐ฎ๐ฅ๐๐ฏ,๐ข๐ญ
Equation 1 (of main interest):
Equation 2:
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Endogenous Variables in Equation 1
TERTER LevLev
MBMB
SIZESIZE
ProfitabilityProfitability
DebtMaturity
DebtMaturity
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Endogenous Variables in Equation 2
TERTER LevLev
MBMB
SIZESIZE
ProfitabilityProfitability
DebtMaturity
DebtMaturity
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Maximizing TER with respect to DM and Lev
2. Partial effect of Leverage on Total Excess Returns:
Ceteris paribus, REITs with higher Excess Returns are less levered (Equation 2)!
Given the โfactโ that leverage and debt maturity are substitutes and jointly determined it follows: Leverage and Debt Maturity have to be set to minimize their sum in order to maximize Excess Returns (Equation 1)!
Positive partial impact of leverage on total excess returns
up to the maximum requires leverage ratios smaller than
48% and average debt maturities smaller than 43,4
months!
1. Partial Effect of Total Excess Returns on Leverage
๐๐๐๐๐๐ข๐ญ๐๐๐๐๐ฏ๐ข๐ญ = โ๐,๐๐๐ < ๐
๐๐๐๐ฏ๐ข๐ญ๐๐๐๐๐ข๐ญ = โ๐.๐๐๐
๐๐๐ฏ๐ข๐ญ = ๐,๐๐โ ๐,๐๐๐๐๐ข๐ญ ๐๐๐ข๐ญ = ๐๐,๐๐โ ๐๐,๐๐๐๐๐ฏ๐ข๐ญ
๐๐๐๐๐ข๐ญ๐๐๐๐ฏ๐ข๐ญ = ๐,๐๐๐ โ ๐โ๐,๐๐๐โ๐๐๐ฏ๐๐ซ๐๐ ๐๐ข๐ญโ ๐,๐๐๐โ๐๐๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ = ๐
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Economic reasoning of the results and adjustment to prior research
1. Higher leverage is associated with higher sensitivity to macroeconomic factors namely
unexpected inflation as well as risk and term structure of interest rates. Chan, Hendershot
and Sanders (1990). This problem is even more severe if debt maturities are relatively long
because interest rate and inflation risk increases in debt levels and debt maturity likewise.
2. Market environment and REITs specific characteristics (e.g. property focus) very robustly
influence leverage . Capozza and Seguin (1998)
3. Other endogeneity issues with respect to (balance sheet) leverage like credit rating and
financial flexibility are still not ruled out. Graham and Harvey (1999). Upon that target
(balance sheet) leverage ratios might mainly justified by receiving an investment grade rating.
Brown and Riddiough (2003)
4. The portion of senior debt has no impact on excess returns although it is strongly suggested
by capital structure theory. Ambrose, Bond and Ooi (2009)
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Shortcomings
1. No consideration of any variance measures: Sharpe Ratio, Variance of Earnings
2. No deep exploration of the leverage return relationship for different property types
and no time series dimension of the property focus dummies.
3. No exploration of the L-R-Relation during boom and bust periods
4. No further equations in the system, i.e. for debt maturity.
5. Omitted variable: Liquidation value Shleifer and Vishny (1992) and Benmelech
(2005) and Giambona, Harding and Sirmans (2007)
6. Astonishing: Balance sheet leverage was not identified to be endogenous but
market leverage was?!
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Coments and Suggestions
Thank you very much for your attention!!!
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SEM 3SLS Regression Results:
SME 3SLS
Estimator T-Stat Estimator T-Stat
Total Excess Return - - -0.433 -1.75*LeverageMB 1.171 2.05** - -
Constant -0.058 -1.56 1.117 27.06***MB-Ratio 0.038 9.03*** -0.066 -22.72***
Log(Size) -0.019 -1.72* -0.027 -7.42***
Log(Size)ยฒ 0.021 1.23 0.009 -1.48
Profitability 0.292 2.35*** - -
Income Growth - - -0.751 -1.45
Rating - - 0.027 4.85***
Debtmaturity - - -0.023 -3.57***
Asset Maturity * Debt Maturity - - 0.000 -0.79
Asset Tangibility - - 0.082 1.65*
LeverageSD 0.121 1.42 - -(LeverageMB)ยฒ -1.206 -2.41** - -
Interaction LeverageMB*Debtmaturity -0.027 -1.94* - -
Market Excess Return S&P500 0.113 1.75* -0.036 -1.56Market Excess Return FTSE/NAREIT 0.377 9.04*** - -
Time Dummie 1992-1994 0.005 0.033 - -Time Dummie 1995-1997 0.175 1.65* - -Time Dummie 1997-1999 0.028 0.33 - -
Time Dummie 1999-2002 0.059 0.89 - -Time Dummie 2002-2004 0.049 1.10 - -Time Dummie 2004-2007 0.061 2.74*** - -
Apartment/Multifamily -0.008 -2.86*** -0.125 -3.60***Hotel 0.007 -1.71* -0.341 -4.39***Office -0.004 -1.09 -0.272 -0.70
Retail/Shopping -0.005 -0.09 -0.171 -4.13***
Diversified 0.012 0.20 -0.170 -3.37***Health Care/Specialty -0.011 -3.20*** -0.110 -2.99**
Probability (F-Statistic)Standard Error of Regression
Equation 1 Equation 2
0.065 0.084
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Hausman Test for Endogeneity
Hausman Test for Equation 1Regressor Estimator T-Stat of ResidualsMB 0.002 0.24Size -0.181 -3.79***Profit -0.192 -2.83***
LeverageMB-0.565 -4.27***
LeverageBS-0.036 -1.18
LeverageSD -0.100 -0.91
***:=p-value<1%, **:=p-value<5%, *:=p-value<10%
Hausman Test for Equation 2Regressor Estimator T-Stat of ResidualsMB 0.214 19.86***Size -0.066 -4.59***Profit -0.590 -3.45***Debt Maturity 0.001 -4.59***TER -0.288 -11.20***
***:=p-value<1%, **:=p-value<5%, *:=p-value<10%
๐๐๐ข๐ญ = ๐๐จ + ๐๐๐๐๐(๐๐๐๐๐๐๐)๐ข๐ญ+ ๐๐๐๐๐(๐๐๐๐๐)๐ข๐ญ+ ๐๐ข๐๐ซ๐จ๐ฉ๐๐ซ๐ญ๐ฒ ๐ ๐จ๐ฎ๐๐ฌ๐ข + ๐๐ฃ๐๐๐ข๐ฆ๐ + ๐๐๐๐ฌ๐ฌ๐๐ญ ๐๐๐ญ๐ฎ๐ซ๐ข๐ญ๐ฒ๐ข๐ญ+ โฏ+ ๐ฎ๐๐๐ญ๐
๐ฃ=๐๐
๐ข=๐
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Boom and Bust Cycles
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Descriptive Leverage Return Relationship
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Descriptive Leverage Return Relationship
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Distribution of Property Focus