Modelling and forecasting office returns in the Helsinki area

This paper presents an econometric study of office returns determination in the Helsinki area, a small European market, over a 30-year period from 1971 to 2001. Particularly, the study investigates the variation in office capital growth, which is the most volatile component of office total return in the Helsinki market, using three alternative models: a regression model, an error correction model (ECM), and an integrated autoregressive-moving average model with exogenous explanatory variables (ARIMAX). The study also evaluates the forecasting performance of the alternative specifications. The results indicate that the ARIMAX models, incorporating past values of capital growth and growth in service sector employment and in the gross domestic product, are able to pick up shocks present in the data, and thus provide the best forecasting tool for office returns in Helsinki. The ECM models, which incorporate long-run information, cannot satisfactorily model the irregularities in the Helsinki office market, such as the boom-bust cycle of the 1980s and 1990s, and thus are suitable for modelling and forecasting only part of the Helsinki market. It is predicted that office capital returns will continue to grow in real terms by 0.1% on average in the 2002-2005 period. This implies that real office total returns will grow on average at the rate of 5.7% over the same time period.