Methodologies for Equivalent Yield Calculation and their Implications for Property Investment Pricing

Abstract

Equivalent yield is a single discount rate that implicitly reflects the characteristics of a freehold property, as well as its redemption value and cash flow changes. Within the context of the synergy between equivalent yield analysis and the growth explicit discounted cash flow (DCF) techniques, this study assessed how the methodologies for equivalent yield calculation can influence the pricing of under-rented freehold property investments. Identified from existing literature were six techniques of equivalent yield calculation comprising the use of valuation and investment tables, formula method, linear interpolation, the @IRR-, and the goal seek functions in Microsoft Excel, and the use of mathematical software with in-built root-solving algorithm. These six methods were used to calculate the nominal net equivalent yield for a hypothetical case of under-rented freehold property. The decision rule for property pricing revolved around the net present value (NPV) criterion which is the difference between the market value of the property at the equivalent yield (PV1) and the price paid for the same property (PV0). The study demonstrated that mispricing of property might be attributed to the choice of methodology for the calculation of equivalent yield. It was found that equivalent yields derived from the spreadsheet-and polynomial root-solving approaches led to correct pricing of the property contrary to overpricing, which was attributed to equivalent yield derived from the linear interpolation method, and the phenomenon of underpricing associated with equivalent yields determined using valuation and investment tables, and the formula methods respectively. An added value of this study is that it has re-strategized the science of investment decision-making by identifying methodologies for processing investment data that would likely facilitate appropriate pricing decisions pertaining to the sale, purchase, or retention of under-rented freehold property investments.

A System Dynamics Model of Malaysia House Pricing

“…Hence, it is vital to measure the value of residential property in order to substantiate investment decisions and also to avoid that particular property is overpriced or underpriced. For the record, Ataguba (2017) had discussed about the most common method used to measure the value of freehold property which is equivalent yield method [39]. Equivalent yield method is actually consists of two part.…”