AFX3355_TuteEx2_Soln - -1- AFX3355 Property Investment...

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- 1 - AFX3355 Property Investment Tutorial 2 – Solution guidelines 2.1. What are the three major components of the “real estate system”? How does the development industry link the asset market to the space market? Answer: The three major components are the real estate space market, the real estate asset market, and the real estate development industry. The development industry links the asset market to the space market by taking financial capital from the asset market and converting it into physical capital (buildings) which add to the supply side of the space market. 2.2. Describe three ways in which participants in the real estate system must be forward-looking in time, that is, anticipating future responses to current changes in the system, in order for the system to function well at maintaining the balance between supply and demand in the space market. Answer: Looking at the diagram in Exhibit 2-2, you can see that there are four “objects” market participants (especially investors, the participants in the asset market) need to try to forecast: (i) The economic base underlying the demand side of the space market; (ii) The space market itself (interaction between supply and demand in that market) so as to forecast future operating cash flows from buildings; (iii) The development industry (so as to forecast future additions to supply in the space market); and (iv) The capital market (e.g., changes in interest rates). If this question were on a test, you could get full credit for describing any three of these four. 2.3 What is a negative feedback loop? Give an example of a negative feedback loop within the real estate system shown in Exhibit2-2. Answer: In the “Space Market” rents and occupancy rates can provide a signal to the “Asset Market” about comparative yields. If rents increase, yields will increase and lead to higher property prices supported by investors in the “Asset Market”. The higher prices will, in turn, make the addition of new space more attractive for developers. 2.4 Describe each of the quadrants in the four-quadrant diagram. Set up the four- quadrant diagram, carefully labeling each quadrant. Answer: See Section 2.3 and Exhibit 2-3 of GM and lecture slides. 2.5 Long-run equilibrium in the four-quadrant diagram is characterized by a fixed stock of space (in the northeast quadrant), yet the southwest quadrant shows that new construction is taking place. What is going on? Answer: In equilibrium, the stock of space is constant but there is new construction to replace that part of the existing stock that is worn out or depreciated.
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- 2 - 2.6. Suppose user demand for space in a certain market grows from 4 to 5 million square feet (MSF) at $10/SF net rent. Assuming property market cap rates remain constant at 10%, show on a four-quadrant diagram similar to Exhibit 2-4a the short- and long-run effects of this change on user demand. [Hint: You can answer qualitatively or recognize that specific quantitative answers will depend on the shapes and slopes
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This note was uploaded on 05/18/2008 for the course AFX 3355 taught by Professor John during the Three '08 term at Monash.

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AFX3355_TuteEx2_Soln - -1- AFX3355 Property Investment...

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