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CFA Level I · CFA Level I Exam · Real Estate and Infrastructure

An analyst compares the reported volatility of an appraisal-based private real estate index with that of a REIT index. To estimate the true volatility of private real estate, the analyst applies a technique to the appraisal-based return series. The technique that is most appropriate is:

Unsmoothing the appraisal-based returns is most appropriate. Appraisal lag creates positive autocorrelation and understated volatility, and unsmoothing removes this effect. This gives a risk estimate that is more comparable with REIT or other market-priced assets. Changing discount rates or survivorship does not fix the lag.

  1. Aunsmoothing the appraisal-based returnsCorrect
  2. Bapplying a higher discount rate to the cash flows
  3. Cadding a survivorship adjustment to the index constituents

Explanation

Unsmoothing removes the autocorrelation induced by appraisal practices and raises the estimated standard deviation toward its true level. The other choices do not address the appraisal lag.

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