Modelling the Dependence Structure between Australian Equity and Real Estate Markets – a Copula Approach

Abstract

Over the last decades, the Australian market for Real Estate Investment Trusts (REITS) has shown substantial growth rates. We apply conditional copula models in order to investigate the dependence structure between the returns from REITS and equity markets in Australia. The dependence between these assets has a significant impact on the diversification potential and risk for a portfolio of multiple assets and is therefore of great interest to portfolio managers and investors. We compare the suggested copula models to a standard variance-covariance approach and a Dynamic Conditional Correlation (DCC) model. We observe significant positive correlations between the considered series. The level of correlation has also increased during the last decade indicating a limited diversification potential of investments in REITS for Australia markets. We also find tail dependence between the examined series that is best modelled by the Student t copula. Finally, we conduct a back-testing Value-at-Risk study for a portfolio that combines investments in real estate and equity. We find that the conditional copula approach outperforms both a static variance-covariance approach and the DCC model with respect to quantifying the risk of extreme negative returns. Our findings suggest that ignoring the complex and dynamic dependence structure in favour of a simple multivariate normal model leads to a significant underestimation of the actual risk.

Studying the properties of the Bitcoin as a diversifying and hedging asset through a copula analysis: Constant and time-varying

“…To estimate the parameters of the copula, we follow Rong and Trück (2014) and implement a two-stage procedure. In the first stage, we fit an APARCH model to the univariate return series and obtain the standardized residuals for each series.…”

Research on Financing Risk Factors of Expressway REITs in China with a Hybrid Approach

“…[15]. From the perspective of external factors affecting REITs risk, Stefan and colleagues (2010) examined the link between REITs and the stock market using the Conditional Copula model, concluding that there is a definite positive correlation between REITs and the stock market [16]. To examine the influence of monetary policy on REITs, Chang (2011) split monetary policy into predictable and unexpected components.…”

“…According to the preceding sections, existing research has comprehensively examined the regional development, safety, sustainability, and process improvement elements of expressway REITs risk [16,18,21]. A review of the risk literature on expressway REITs indicates three additional critical points.…”

International Real Estate Review

“…The model forecasts that the housing prices in Melbourne and Sydney have a more volatile performance than the other two cities. Previous studies on Australian commercial properties often investigate their financial characteristics and performances such as the monetary instrument or indirect investment assets at the microeconomic level (Chikolwa, 2010, Rong andTrück, 2014).To the best of our knowledge, there is still a knowledge gap in the investigation of Australian commercial property cycles in the macroeconomic context. Only one recent study on property cycles, Hui and Wang, examine the cyclicality behaviours of securitized property markets in six countries and regions at the macro level (Hui and Wang, 2015).…”