Hedonic Models with Redevelopment Options under Uncertainty

John M. Clapp, Jyh Bang Jou, Tan Charlene Lee

Research output: Contribution to journalArticlepeer-review

22 Scopus citations

Abstract

In the hedonic model, implicit market prices can be interpreted as the present values of rents per unit of each hedonic characteristic. But when rents rise, there may be substantial value associated with the option to redevelop to higher intensity per unit land value. In the presence of option value, we first demonstrate that hedonic linear regressions should include an additive nonnegative term for the value of the option. This term increases in the variance of the underlying stochastic process. If this term is omitted, then estimates of implicit market prices for desirable (undesirable) characteristics will be biased downward (upward). This prediction is supported by recent empirical studies. We further suggest that future empirical work can employ the nonlinear functional form derived from our theory.

Original languageEnglish
Pages (from-to)197-216
Number of pages20
JournalReal Estate Economics
Volume40
Issue number2
DOIs
StatePublished - Jun 2012

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