Abstract
We justify the importance of real options value in housing tenure choice model with theoretical derivation and empirical results. In literature regarding reasonable housing prices, researchers often use housing tenure choice models to study related topics, assuming that housing user costs are the same as rents. However, many empirical studies show that user costs and rents do not cointegrate with each other, inferring that long-run equilibrium does not exist and housing bubbles have very likely occurred. In this regard, we assume that renters pay the rents and house owners have a real put options while spending housing user costs in our model. By real put options, we mean that when housing prices rise to certain level, house owners may sell out the houses for personal reasons. In addition to deriving the relationship among rents, housing user costs, and real option values, we also verify the potential cointegration relationship between user costs and rents empirically by using US quarterly data. Unlike previous literature, we find that cointegration exists, inferring that there exists long-run equilibrium between user costs and rents after considering real options value. We further employ Markov switching VAR model to verify the relationship among user costs, rents, and real options values in different states. Our simulation results show that ignoring real option values may be one of the reasons why in previous literature, they find no equilibrium between housing user costs and rents. Our findings can help promote the formation of reasonable housing prices and shed light on sound development of the real estate market in Taiwan.