Valuation Theory, the Marshallian Synthesis and Implications to Mark-to-Market Measurements

1
Valuation Theory, the Marshallian Synthesis and
Implications to Mark-to-Market Measurements

• Terry V. Grissom
• Professor of Real Estate University of Washington
  and Lecturer in Real Estate University of Ulster

2
Process

• Problem Economic Foundation of Valuation
  Techniques and Implications to Theory of
  Equivalence or Hierarch of Process
• Theory Value
• Valuation
• Appraisal
• Empirical Fit of Model
• Equivalence vs. Hierarchy
• Comparative Statistical
• mark-to-market

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Mark-to-Market

• Rules Based vs. Principles Based Valuation
• Historical cost vs. Value
• Pro-cyclical
• Transparency
• Base or anchor
• Objective vs. subjective (judgment)

4
Theory

• Value Theory Marhsal (1890/1979) (Friday (1922),
  Ratcliff (1961, 1965, 1972),Wendt (1974) Grissom
  (1981,1985, 1986), McParland, McGreal and Adair
  (2000), Odileck and Unsal, (2009) DeLisle
  Grissom (2010),
• Valuation Theory Marhsal (1890/1979), Mertzke
  (1927), Babcock (1932), Bonbright (1937), Schmutz
  (1948), Wendt (1956), Ratcliff (1961, 1965,
  1972a), Babcock (1968), Wendt (1974), Graaskamp
  (1979), Grissom (1981, 1985, 1986). Grissom et al
  (1987), Grissom Diaz (1991), Moore (1992),
  Wincott et al (1996), Scott (1996), Crosby
  (1999), Crosby and Murdock (1999), Sharpiro et
  al (2009), Parli Fisher (2010), DeLisle
  Grissom (2010),
• Appraisal Theory Mertzke (1922), Schmutz (1948,
  1956), Kinnard (1966) Ratcliff (1964, 1965,
  1972b), Wendt (1974), Graaskamp (1979), Grissom
  (1981, 1985, 1986) Diaz (1990), Grissom and Diaz
  (1991), Pomykacz (2009), DeLisle and Grissom
  (2010)

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Value Theory

• Value Determinants
• Value Premise/Principles
• Statistical Concepts (Colwell,1979)
• (Gini, 1922)
• (Kummerow 2002)
• (Grissom 1986)
• Equilibrium Concepts (Marshall 1890)

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Valuation Theory

• Measurement and Base
• Traditional Property Base
• Statistical Data Set or Market Base
• (Grissom, Robinson, Wang 1987)
• Equilibrium Conditioned Set or Market Base
• Cannaday and Colwell (1981a, 1981b)

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Appraisal Theory

• Appraisal Analysis comprised of two general
  decision tools (Moore, 1992)
• Methods of standards and measurement objective
• Decision tools
• Standard/Objectives (subjective/judgment)
• Logic Theory of Equivalence
• Hierarchy
• Evaluation Base

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Figure 1Marshallian Valuation Construct and
Market Structure
P
SM
SSR
SI
DSR
SL
PM
PI
PSR
DL
DI
DSR
Q
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Market Constructs of Approaches

• Momentary/current price in Short Run Equation
  premised on Supply and Demand
• Price is a function of size/quantity and rent
• Where
• Conditional on and inverse relationship of price
  and quantity

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Market Constructs of Approaches

• The momentary market is altered by shifts in
  current supply considering modifications as per
  land use succession conditions
• This is estimated by the rate of growth in supply
  based on the neo-classical theorem as formulated
  by Robinson (1962). This theorem influences
  various long-run impacts on current expectations
  across input markets. The variables per market
  used in this study are conditioned on the
  weighted effects of growth expectations (?SR)as
  functions of asset market calculus relative to
  the long-run normal growth rate
• SSR h(SM, ?SR, QSRPSR, PM)

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Market Constructs of Approaches

• Short Run Pricing incorporating growth/change
  considerations and impacts
• Change/growth rate
• ?gSR ?h(
• Expected Short-Run Price

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Market Pricing Constructs of Approaches
Hayek Supply price /roundabout discounting
affects
Intermediate Valuation Phase
Where
NOI f(R, Rot, GIM) And NOI net
operating income ( rent less all expenses
and deductions) OER operating expense
ratio, derived from OER 1-(Ro X GIM) to
derive a market developed operating
expense ratio (OER). See Triece equation GIM
a gross income multiplier (Price ?Gross
Income/rent).
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Market Pricing Constructs of Approaches
Demand Pricing conditioned on price and rent
associations
The intermediate equilibrium value (VIE) occurs
where VID - VIS 0 in the equation form
where ?ID - ?D VID ?RiD - ?IS
?S VIS 0 Using the relationship VID -
VIS 0 then Equation 5 is restated as ?ID -
?IS VIE (?S- ?D) ?RiD
QVIE   VIE QVIE - ?RiD -?ID -
?IS (?S- ?D)
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Market Pricing Constructs of Approaches

• Long Run considerations (distributive theory)
• SLR f(?R, Lw, Ki, ??)?, ?
• Where
• ? land as a factor of production
  compensated by rent R, a market price for the
  use of land or a cost in the process of
  production/construction
• L labor compensated with a wage (w)
• K capital receiving a return of (i) and
• ? entrepreneurship, which is compensated
  with profit, ? which is treated as a cost of
  production in the creation or development of an
  asset.
• The factors are conditional on the level of total
  resources ? and the state of choices of
  development technology, ?, efficient,
  inefficient, sustainable or traditional.

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Market Pricing Constructs of Approaches

• The ability to link long-term normal price and
  cost supports the form of the long-run supply and
  demand schedules based on Demand and Supply
  Equations respectively

Demand
Supply
Equilibrium State
P LRS - P LRD 0
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Empirical

• Fit of Theory/Model-Equilibrim Table 2a/b and
  Figures 2-7
• Statistical Distributions- E(V), Ve, Vp Table 3
• relative to Equilibrium values
• Tests of Equality (Marhalls Time Frames)
• Theory of Equivilence
• Hierarchy
  Table 4
• Comparative Statics and Marginal Distributions
  (Mark-to-Market) Table 5

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Equilibrium Values Statistical Values
Market Moment ary Short-Run Intermediary Long Run E(V)?M SR LR VeMd SR LR VpMo SR LR Risk(?SR) SR LR
Atlanta 150.00 142.65 146.30 144.50 144.92 125.58 148.57 141.31 153.84 177.21 144.60 145.91 124.82 148.05 141.34 151.41 176.77 142.74 149-150 130-133 147 141-142 140-145 176-177 144 3.84 6.40 2.77 1.36 0.62 1.64 15.96
Austin 136.50 118.00 123.00 120.00 72.18 117.54 89.21 128.85 145.81 151.65 119.62 72.30 115.81 85.18 126.85 142.76 151.96 127.45 72.50 109 70-75 110-120 140-143 151-153 75 0.46 16.16 7.54 13.73 6.50 0.85 30.18
Boston 329.00 289 301.50 295.00 243.00 263.33 171.49 267.01 313.50 321.65 255.55 243.50 265.85 172.85 283.55 309.83 319.50 267.70 180-190 Bi- 200-225 modal 300-325 300-305 310-320 316 27.40 19.85 24.19 44.57 15.58 13.56 60.15
275-280 274
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Valuation Theory Model Tests-Empirical
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Valuation Theory Model Tests
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Valuation Theory Model Tests
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Valuation Theory Model Tests
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Valuation Theory Model Tests
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Valuation Theory Model Tests
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Appraisal Theory Equivalence vs Hierarchy

• Empirical Analytics suggest Equivalence concept
  is weaken
• Samuelson and Comparative Statics (1946-1947)
  offers statistical critique of comparative
  statics in relation to marginal analysis. This
  offers support for or rejection of observations.
  
• This is achieved in a 3 step process where
• Samuelson builds on Stiglers argument that a
  goods endogenous attributes are proportional to
  the quantity of the M good itself. This allows
  the price of the goods to be used to make
  maximum/minimum decision calculations. Goods can
  be specified by unique value determinants and
  attributes in the form

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Appraisal Theory Equivalence vs Hierarchy

• ?M1 is a minimum aggregated productivity
  attribute measurement allowed or acceptable per
  asset. A1iQi is the attribute quality
  measurement observed per unit in the market.
• The assumptions of the endogenous attributes as
  defining the asset or good allows the price or
  cost estimate to specified as Pi
  CP1Q1CP2Q2CPnQn.
• This allows the cost combination in two price
  situations to be compared to the extent Pi ? Pj
  and deduce the level of price changes associated
  with optimal changes in quantities associated in
  each price situation.

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Appraisal Theory Equivalence vs Hierarchy

• In this context the corresponding price and
  quantity changes in the momentary market are
  stated as PM and QM and PSR and QSR in the short
  run market.
• The price-quantity pairings in the intermediate
  and long run markets are indicated by I and LR.
  By definition
• ? PMQSR ? ? PMQM and ? PSRQM ? ? PSRQSR
• Adding these inequalities and rearranging terms
  produces
• ? (PSR-PMR)(QSR-QM) ?P1?Q1?P2?Q2?Pn?Qn ? 0
• This equation allows the comparison of the
  equilibrium positions in a comparative static
  format. This enables a direct comparison of the
  equilibrium positions as specified for the
  momentary, short-run, intermediate and long-run
  market pricing points.

Paasche/Laspeyres Indices
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Appraisal Theory Equivalence vs Hierarchy

• With the assumption of constant utility (U), the
  price differences can be carried further to a
  dynamic construct consider the integral format
• The above equation reflects a Hicksian demand
  construct, as such for the equivalence theorem
  to hold, the Hicksian demand structure has to
  hold across market periods, while a hierarchy
  format is consistent with the Marshallian
  construct with additive utility inferred. The
  test is determined by the percentage difference
  of the value estimate from the current market
  standardized as one (1), with the test statistic
  of 1-?.

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Conclusions

• Good Fit of Models across Economic phases
• Strong argument for hierarchy of valuation
  techniques (given the partial equilibrium
  construct that underlies the appraisal process
  based on the economics of the Marshiallian
  synthesis.
• though reconciliation process is reasonable, for
  it to hold significant procedure and assumptions
  must be developed in Sharpiro et al (2009)
• Mark-to-market standards supported if
  perspectives are designated as
• Potential to condition pro-cyclical concerns
• Suggest the focus on using market rather than
  subject as base of analysis (or integration See
  Grissom, Robinson and Wang (1987)
• Further benefits to be gained by employing
  calculus of variation construct and error
  correction models as alternative to structural
  equilibrium procedure