Compound announces Q3 Compound Residential Real Estate Investment Rankings (“CRRR”)

Every quarter, Compound releases the Compound Residential Real Estate Investment Rankings, a ranking of the 40 largest urban residential real estate markets and their relative performance as an asset class as measured by total appreciation in relation to their associated risk as measured by historical volatility.

Over the last year, Q3 2018 to Q3 2019, residential real estate (SFR, Condo, Co-op) throughout the United States appreciated 5.00% on average. The best performing residential real estate market within our data set, for the third quarter in a row, was Indianapolis with prices appreciating 8.05% year-over-year, followed by Austin at 7.44%. The worst performing cities are mostly concentrated in the west coast with San Jose leading the way with prices depreciating -10.28% year-over-year and San Francisco at -2.38%.

Top Markets- September 2018-September 2019

All data sourced from Zillow

Bottom Markets- September 2018-September 2019

All data sourced from Zillow

Our Rationale

The two main components of investing are risk and reward. One of the ways that investors measure risk is volatility. For example, markets like Las Vegas, Phoenix, or Miami have historically been very volatile. There are years where real estate appreciates by 20% but there are also years where the declines are just as large. Other markets such as San Antonio, Cleveland, and Pittsburgh are more stable- it’s rare that you have a 20%+ increase or decline in pricing. When comparing returns market to market, the risk of such market also needs to be taken into account.

How do we measure risk?

We measure risk by calculating the volatility of each MSA’s average home price, using the standard deviation of price changes over the past 20 years.

How do we measure return?

We used the Zillow Home Value Index, which includes SFR, condos and co-ops, and compared home values from September 2019 to values in September 2018.

Bringing Risk and return Together

The Sharpe ratio was developed by Nobel laureate William F. Sharpe, and is used to help investors understand the return of an investment compared to its risk. The ratio is the average return earned in excess of the risk-free rate per unit of volatility or total risk.

In other words:
S (x) = (rx - Rf) / StdDev (x)


Where:

X is the investment (the average home price for that city, as defined by Zillow data)
rx is the average rate of return of X
Rf is the best available rate of return of a risk-free security (in this case, the 10-year US Treasury Bill interest rate of 2.00%)
StdDev(x) is the standard deviation of rx

CRR Methodology Notes

1. Sample set consists of the largest 40 metro areas by population.

2. Represents change in Zillow Home Value Index (ZHVI) All Homes (SFR, Condo/Co-op) between 9/2018 and 9/2019

3. Historical standard deviation of the metro area ZHVI since 1998

4. Sharpe Ratio = (Annual Return- Risk Free Return) / St Dev.