A long run initial yield for offices: a panel cointegration test

Abstract

Initial yields are traditionally used to capture the relation between rentals and capital values. However, this relation changes over time since the markets are not continuously in equilibrium. The idea of reversion toward an equilibrium suggests that a long run contemporaneous cointegrating relation should exist between rents and prices for income-producing properties. However, empirical work in ascertaining long run cointegrating relations is often limited by the scarcity of data as well as insufficiently long data sets. This paper extends current work by simultaneously testing for heterogeneous panel cointegration between office rents and prices. The concept of heterogeneous panel cointegration advocated by Pedroni (Working paper, Indiana University, 1995; Oxford Bulletin of Economics and Statistics, 1999) allows information from heterogeneous panels to be aggregated over time and across panel members. While the traditional bivariate Engle-Granger cointegration results are somewhat inconclusive, the empirical evidence from the heterogeneous panel cointegration test clearly shows that a long run initial yield or present value relation persists in office markets in Singapore.