Optimal holding period for a real estate portfolio

Michel Baroni (), Fabrice Barthélémy () and Mahdi Mokrane

Journal of Property Investment & Finance, 2007, vol. 25, issue 6, 603-625

Abstract: Purpose - The purpose of this paper is to offer a framework for computing optimal investment holding periods for real estate portfolios. Design/methodology/approach - The analysis is set within a standard DCF modelling framework and it is shown that it is not adapted to offer sufficient insight into the mechanics leading to optimal holding periods. A richer framework is offered that enables the portfolios terminal value to behave according to a simple diffusion process. Findings - The findings show that optimal holding periods for real estate investment portfolios exist within very precise conditions. The key parameters are the investor's weighted average cost of capital (WACC), the cash flow growth rate during the investment period, and the investment's net initial yield. The key finding is (loosely speaking) that, if the investor's cost of capital is outpaced by (the sum of) the portfolio's net initial yield and the cash flow growth rate, then an optimal holding period exists and can be precisely computed. Numerical examples are provided to illustrate these findings. Originality/value - Standard financial theory does not specify a consistent methodology for choosing the optimal investment horizon in investment analysis and in particular in discounted cash flow (DCF) modelling. This problem may be particularly acute in real estate investment analysis and valuation, as investment horizons are often arbitrarily chosen. The paper proves that investment horizon may strongly influence net present value.

Keywords: Investment appraisal; Market value; Real estate; Discounted cash flow; Sensitivity analysis (search for similar items in EconPapers)
Date: 2007
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Citations: View citations in EconPapers (2)

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Working Paper: Optimal Holding Period for a Real Estate Portfolio (2007)
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Persistent link: https://EconPapers.repec.org/RePEc:eme:jpifpp:v:25:y:2007:i:6:p:603-625

DOI: 10.1108/14635780710829306

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