This paper looks at how to help market participants form judgements about the state of the property market cycle and especially when bubble territory is approaching.
Using historic market index data for real estate values, a simple approach is created to monitor the property cycle and identify a measure of market overvaluation – or ‘bubble measure’. This measure has historically preceded significant market corrections. The approach uses historical capital values (adjusted for inflation) of several UK and us property segments (both commercial and residential). When property market values deviate more than 20% above their long run average trend a subsequent 30% peak to trough real fall in the market value index over the next five years is likely.
The approach may help real estate practitioners to smooth the cycle and improve absolute returns by applying “risk on” / “risk off” strategies at critical specific moments, by buying or selling annual property index linked futures contracts.
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