By |Published On: December 19th, 2011|Categories: Research Insights|

The following summary is from our academic alpha database at http://alpha.turnkeyanalyst.com/ideas/55.

Title: Corporate Real Estate Holdings and the Cross Section of Stock Returns
Authors: Selale Tuzel
Category: Equity alpha
Alpha: .50-.75%
Alpha remarks: Table 6 suggest an annual alpha of 8.22%, ~68bp monthly, for VW long/short portfolios

55

The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged, do not reflect management or trading fees, and one cannot invest directly in an index. Additional information regarding the construction of these results is available upon request.

Readability: 4
Blog link: N/A

Abstract:

This article explores the link between the composition of firms’ capital and stock returns. I develop a general equilibrium production economy where firms use two factors: real estate and other capital. Investment is subject to asymmetric adjustment costs. Because real estate depreciates slowly, firms with high real estate holdings are more vulnerable to bad productivity shocks and hence are riskier and have higher expected returns. This prediction is supported empirically. I find that the returns of firms with a high share of real estate capital exceed that of low real estate firms by 3–6% annually, adjusted for exposures to the market return, size, value, and momentum factors. Moreover, conditional beta estimates reveal that these firms indeed have higher market betas, and the spread between the betas of high and low real estate firms is countercyclical.

Summary:

  1. Compute Rental Expense/Gross PPE and eliminate firms with greater than 5%
  2. Compute the RER for every firm: RER= (building & cap leases/PPE(firm) – building & cap leases/PPE(industry))
  3. Go long Higher RER  firms and go short low RER firms
  4. Capture a 8.22% annualized alpha (see table 9)
  5. Make money

Commentary:

  • Equal-weight results show alphas in the 4-6% range for all quintiles, suggesting that the effect might be driven by large firms.
  • Alphas are small, especially when they are industry-adjusted (see table 7)
  • Alphas can be enhanced if the investor excludes firms that have rental expense/Gross PPE that is greater than 5%.

Other Resources:

http://alpha.turnkeyanalyst.com/ideas/55

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About the Author: Wesley Gray, PhD

Wesley Gray, PhD
After serving as a Captain in the United States Marine Corps, Dr. Gray earned an MBA and a PhD in finance from the University of Chicago where he studied under Nobel Prize Winner Eugene Fama. Next, Wes took an academic job in his wife’s hometown of Philadelphia and worked as a finance professor at Drexel University. Dr. Gray’s interest in bridging the research gap between academia and industry led him to found Alpha Architect, an asset management firm dedicated to an impact mission of empowering investors through education. He is a contributor to multiple industry publications and regularly speaks to professional investor groups across the country. Wes has published multiple academic papers and four books, including Embedded (Naval Institute Press, 2009), Quantitative Value (Wiley, 2012), DIY Financial Advisor (Wiley, 2015), and Quantitative Momentum (Wiley, 2016). Dr. Gray currently resides in Palmas Del Mar Puerto Rico with his wife and three children. He recently finished the Leadville 100 ultramarathon race and promises to make better life decisions in the future.

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