Asset Productivity, Local Information Diffusion and Commercial Real Estate Returns

The geography of a firm’s assets is an important determinant of its investment decisions and productivity, which, in turn, drives stock returns. The authors construct a novel measure of the returns earned by each equity REIT on its underlying property portfolio. They then risk-adjust these quarterly property portfolio returns (PPRs) by regressing each against the sensitivities of the REIT’s returns to returns in the private commercial real estate (CRE) market at the national level, to private CRE market turnover (liquidity) at the national level, as well as to standard systematic risk factors. The authors find that these risk-adjusted property portfolio returns (αPPRs) predict the cross-section of returns in the public REIT market, suggesting a slow diffusion of asset-level information into stock returns. This slow diffusion of information about the performance of local markets into stock prices that they uncover is at least partially explained by the link between the price appreciation component of the private CRE market and stock return. In addition to improving their understanding of the extent to which “local” information about the productivity of a firm’s assets is capitalized into stock prices and the speed at which it is capitalized, this study contributes to the literature on the predictability of REIT returns and the relation between private and public CRE returns using firm-level, instead of index level, returns.