Note: This paper was first published in 2017 and is being republished here to reflect updated data
The commercial real estate market provides a fertile ground for behavioural biases to shape the decision-making and actions of participants. As a result, there is value to be gained by moving away from incomplete yet widely used frames of reference in favour of a behavioural approach to investing in the asset class.
A behaviourally-aware framework recognises that the views and (occasionally irrational) actions of market participants can have a significant bearing on market direction and fundamentals.
We find that cognitive errors have a particularly pernicious effect on real estate markets due to:
- higher levels of market inefficiency and intermediation
- lower levels of information transparency
- higher levels of emotional attachment due to the inherently tangible nature of the asset class.
While much of the behavioural finance discourse has focused on mainstream investors in equity markets, we find that professional investors in commercial real estate markets are not immune from investing mistakes rooted in cognitive biases.
In this paper, we explore five of the most entrenched biases in the institutional real estate market, outline their consequences, and propose practical workarounds to minimise their effect.