Portfolio Considerations in the Valuation of Real Estate

James R. Webb and Jack H. Rubens

Real Estate Economics, 1986, vol. 14, issue 3, 465-495

Abstract: When a real asset rises in price faster than inflation (as real estate did in the late 1970s) and rises significantly in price over an extended period (as real estate has done for the last decade and one‐half), it concerns valuation and investment professionals who fear about it being over‐valued. One of the reasons for such price performance may be an increase in demand due to the portfolio characteristics of the asset during the period of time in question. For real estate this means the proportion included in optimal portfolios should be significant and increasing as individual tax rates increase in an environment of increasing average tax rates. This study uses six tax brackets (0%, 10%, 20%, 30%, 40%, 50%) and portfolios consisting of three traditional assets (NYSE common stocks, corporate bonds and small stocks) plus three types of real estate (residential, business and farmland) to demonstrate that this is what has transpired in the real estate markets. Optimal portfolio weights are derived for each asset for after‐tax portfolios. Real estate in general and residential real estate especially increased as a proportion of the optimal after‐tax portfolio as individual tax rates increased. Other studies are used to demonstrate an environment of increasing average tax rates.

Date: 1986
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