Simulating the Effect of Valuation Error on Property Investment Performance Measurement

This paper investigates the potential implications of valuation error for the accuracy of investment performance measures of property portfolios. Previous empirical research on valuation error is reviewed It is argued that there is considerable evidence to suggest that valuations are prone to error. A simulation approach is used to model the effects of valuation error on a number of hypothetical portfolios. The results indicate that the level of portfolio valuation error variance in the measure of portfolio return is a function of: the number of properties in the portfolio; the level of valuation error; and the relative importance of capital growth vis a vis income return. The results indicate that for the majority of property investment portfolios, it is extremely likely that their performance measures will contain some error. It is concluded that for a single measurement period, there may be problems with: property performance analysis; bench marking and fund ranking.