Mastering the metropolis through research and thought leadership.
Working Papers

Real Estate Investment and Leverage: In Good Times and in Bad

Working paper #764
Andrey D. Pavlov, Eva Steiner and Susan M. Wachter

The recent real estate bubble was arguably facilitated by the ready availability of low-cost debt underwritten at ever-increasing loan-to-value ratios. It has been asserted that sustained growth in leverage reflects myopia and irrational optimism amongst financial managers. We argue, however, that this rationale fails to take into account the incentives to managerial borrowing decisions induced by the fact that real estate debt can be collateralised against specific assets, rather than the firm overall. We derive a set of empirically testable hypotheses surrounding a rational strategy for pessimistic managers to increase non-recourse, asset-backed leverage in anticipation of a significant downward correction in underlying asset values. This strategy allows managers to reduce equity exposure to market declines in some sectors or regions, while protecting the remainder of the firm’s asset base. We find empirical evidence consistent with this hypothesis in a sample of listed US real estate investment firms. Consistent with our rationale, we also find that pessimistic borrowing is insensitive to the cost of debt, uses shorter maturities, and is inversely related to future investment, suggesting that pessimistic borrowing is indeed focused on recovering equity. WORK IN PROGRESS – DO NOT CITE

Download full paper · 1MB PDF


In This Section
Explore Topics

1010 Affordable Housing Architecture Asia Australia bonds Borrowing Constraints California Canada China coastal markets cold storage Colombia Commercial Brokerage Commercial Real Estate commissions Congestion consumer bias covid-19 CRE credit card market Credit Default Swaps Credit Insurance Credit Risk Transfers Culture data centers Debt Market Demand Demographics Density Development Discrete Choice disruption Diversity e-Commerce Economic Corridors economic policy economics education election studies Equity Market Ethnic Factors Europe Fannie Mae financial asset management Foreclosures France Freddie Mac general equilibrium Global global economy Global Financial Crisis great depression Great Recession healthy buildings Hedonic hospitality Housing & Residential housing boom Housing Disease housing prices Housing Supply Identity Income Inequality India inflation Inter-generational mobility interest rates Investing Lagging Regions land use regulation Language life sciences Macroeconomics Microeconomics Migration Minimum Payments Mixed-Use Mobility moral hazard mortgage insurance mortgage market Mortgage Rates Mortgages Multi-family Nation Building Non-Traditional Mortgages office sector pension funds Placed Based Policies Political Risk Price Discovery public health public policy Public Schools real estate brokerage Real Estate Investment Real Estate Investment Trusts Recession Rental Retail Retirement reverse mortgages risk management risk-shifting single family housing Slums Sorting South America Spatial Regions spillover effect stimulus package Sub-Prime Mortgages Supply Chains Sustainability Technology telecommunications unemployment United States Urban Urbanization welfare work from home

arrow_drop_up