Goldman Sachs Housing Fair Value DDM

[Intrinsic_Value]

Goldman Sachs has created a formula to estimate fair value for australian residential property.

"Fair value" house prices = real rents/{(real i + risk premium)-real net rental growth}

Real i = real 10yr indexed bond yld
For their model they place risk premium at 2% and real net annual rental growth at 1%.

This has tracked future prices quite well since 1987 (ie when under fair value, there is a large future jump in prices, when above fair value, then future prices tend to decline back towards fair value (note that fair value is rising over time). Shows housing prices over valued by 38% when the market peaked in 2003, shows current prices being over valued by around 15%.

There is a graph, but the document wont let me copy and paste.

 

[starbright]

Does this mean that they think the fair value yield of Aust housing is around 4.77%, as:

{(real i + risk premium)-real net rental growth}

= 3.77% + 2% - 1%

= 4.77%

I've used 10 year govt bonds here (3.77%) as I don't know the real 10yr indexed bond yield. I'm guessing the real 10yr indexed bond yield will be even lower than 3.77% after you strip out inflation?

That would suggest houses are not overvalued as I imagine lots of property are not valued at a 4.77% yield or lower in today's climate. Or is my calculation missing something here.

thanks

 

[Intrinsic_Value]

i dont work there, nor am i am customer of theirs, so cant ask direct questions (i get access to their information from an insider).

But need to consider what is the 'real rent', i imagine this means gross rents less outgoings as the numerator.

The other point is that this is an australia wide 'average'

I am looking into this further.

 

[Deltaberry]

Ah yea I've seen that report before... I think the conclusion was it doesn't see much more growth going forward, from memory?

 

[mrmonopoly]

i dont work there, nor am i am customer of theirs, so cant ask direct questions (i get access to their information from an insider).

But need to consider what is the 'real rent', i imagine this means gross rents less outgoings as the numerator.

The other point is that this is an australia wide 'average'

I am looking into this further.

Thank IV, very interesting. Would love to read more on it, so if anyone finds anything please post. As you have stated though, the obvious problem being that it is Australia wide and almost impossible to apply on an accurate micro level. Still only a fraction of the decision making process but always good for risk mitigation.