Case multivariate regression model for residential property 2 Authors Auditing Automated Valuation Model Jamie Donovan Realia Management Oy Analyst Valuation Advisory Authors Mikael Postila ID: 774601
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1
✒
Auditing Automated Valuation Model
Case: multivariate regression model for residential property
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Authors
Auditing Automated Valuation Model
Jamie Donovan
Realia Management Oy
AnalystValuation Advisory
Authors
Mikael Postila
Orava
Funds Plc
Head of Research, Investment Analysis & Tenant Services
Seppo Koponen
Realia Management Oy
Vice PresidentMRICS,HypZert(MLV)AKA,KHK,LKV
Kauko Viitanen
Aalto UniversityProfessor, Head of the Department, Real Estate Economics and Valuation, Department of Real Estate, Planning and GeoinformaticsFRICS
✒
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Realia Management Oy
A part of Realia Group
✒
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Realia Management Oy
A part of Realia Group
✒
Valuation Advisory
Valuation services, Tailored advisory and consulting support services, Market research
services
Realia
Group is Nordic’s largest management and consulting group specialized in residential and commercial property transactions and in managing residential and commercial assets
❞
❞
4
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➢
The case study
Explorative case study
Introspective
We emphasise process description, exploring ways to improve and pinpoint issues we have encountered.
Academic
Practice
Positive/Descriptive
Normative
Objective
Subjective
We are not in a position to give an objective, qualitative assesment of the success of the case
Slide66
Description of Orava Residential REIT in-house AVM
Purpose
Monthly valuation of portfolio for board meetings
Valuation for quarterly interim and end of year financial statement
Valuation of proposed investments
Regulation
According to IFRS a company must value its assets at fair value. According to rather new IFRS standards company management must assess fair value – i.e. mgmt must make its own assessment even though an external valuer (IVS, RICS, …) provides some calculation.
Finnish law does not require external valuation
Finnish FSA and CPA (at the moment PwC) have approved approach
Reasoning behind in-house model
Timeliness: all property assets can be valued at any given moment, without waiting external valuation. Company board should be aware of developments at least monthly.
Cost effectiness: assume a REIT has 100 properties, which are valued monthly – update of valuation á €1000
12*100*€1000 = 1,2M€ !!!.
In-house valuation team of 1-2 people is sufficiently large for this.
AVM objectivity
Verification
Values are compared semi-annually against desktop valuation of chartered valuers (AKA/KHK)
Valuation methodology is audited annually by external chartered valuer
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Description of Orava Residential REIT in-house AVM
Methodology
Multivariate hedonic regression / OLS
OLS chosen since it 1) can be easily explained to investors and board members, 2) is simple, no need for high level econometric expertise, and 3) can be verified and possible mistakes in estimation / data validation process are easy to find
Problems: data related issues are difficult to eliminate using regular OLS (better, but more difficult methods include: GLS,
Kalman
filter, GWR, neural networks, …)
Separate model done for every property
Estimation and value calculation duplicated
(->
spotting human errors)
Specification
Model specification changed only if a significant estimation/data issue is found
Changes are tested for the whole portfolio before applying
Same universal specification is used for every property
Specification should be 1) theoretically sound, 2) fit data (yield reasonable valuations compared to external valuation) and 3)
minimise
s.e.
of
regression
Data
Asking prices (www.oikotie.fi –portal); correction term calculated quarterly using Statistics Finland transaction price statistics
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?
What is an audit? Is this an audit?
A second opinion. However, audit checks against audit criteria – a more objective and systematic approach to assurance.
“systematic
, independent and documented process for obtaining audit evidence (3.3) and evaluating it objectively to determine the extent to which the audit criteria (3.2) are fulfilled” (ISO 19011:2011). According to ISA 500 and ISA 620, the AVM auditor can function as the reporting entity’s expert or the primary (financial statement) auditor’s expert. (International Standards on Auditing)
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Piecing standards
and guidelines together
✒
A good overview o
f applicable standards
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Piecing standards and guidelines together
✒
Slide1111
✒
The tenets of an audit
Largely a question of pass or fail
Towards standardisation”You know what you get”
Audit process of the Orava AVM
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Audit process of the Orava AVM
✒
Beginning work
Competency
Other qualifications (independency)
Documentation
Audit plan
Audit criteria
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Examples criteria used in Orava Audit
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“For
the whole portfolio, irrespective of the size of the portfolio, the sum of individual asset values must be within 5 % of the sum of asset values as valued by an independent
valuer
.”
“For
a sub-portfolio, the sum of values must be within 7.5 % of the sum of values as valued by an independent
valuer
.“
“Single
property assets (combination of multiple apartments at the same address) must be valued within 15 % of the equivalent valuation by an independent
valuer
. Of the entire set of property assets, at least 80 % must pass this criteria
.”
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Audit process of the Orava AVM
✒
Beginning work
Competency
Documentation
Audit plan
Audit criteria
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Audit process of the Orava AVM
✒
The audit report structure
Object
and Contents of External Audit
Regression
Models in Property Valuation
Automated
Valuation
Orava
Automated Valuation
Process (audit)
Auditing
Results and Audit Statement
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Scope of External Audit used in Orava Audit
✒
“The purpose of the audit is to ascertain independently the balanced and quality and the true and fair treatment of the data and the results in respect to all parties involved
.”
“The object of audit is the automated property valuation model by
Orava
Fund
”
“The purpose of the automated valuation model is to define a market value for the properties owned by
Orava
Fund. The audit of the model is thus limited to the use of the model for the defining of
fair value (market value) for
the afore mentioned portfolio at the time of audit
.“
“The audit is based on the data and information obtained from
Orava
and other sources, in part verified against each other.”
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✒
“The purpose of the audit is to ascertain independently the balanced and quality and the true and fair treatment of the data and the results in respect to all parties involved
.”
“The object of audit is the automated property valuation model by Orava Fund”“The purpose of the automated valuation model is to define a market value for the properties owned by Orava Fund. The audit of the model is thus limited to the use of the model for the defining of fair value (market value) for the afore mentioned portfolio at the time of audit.““The audit is based on the data and information obtained from Orava and other sources, in part verified against each other.”
Definition of Audit
Object of Audit
Purpose and Scope
Sources
Scope of External Audit used in Orava Audit
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Audit process of the Orava AVM
✒
The audit report structure
Object
and Contents of External Audit
Regression
Models in Property Valuation
Automated
Valuation
Orava
Automated Valuation
Process (audit)
Auditing
Results and Audit Statement
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Audit process of the Orava AVM
✒
Observing the AVM creation/implementation process
Data collection and pre-processing
Modelling
Modelling post-processing and valuation
AVM reporting
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Example table used in Orava Audit
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Audit process of the Orava AVM
✒
Observing the AVM creation/implementation process
Data collection and pre-processing
Modelling
Modelling post-processing and valuation
AVM reporting
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Audit process of the Orava AVM
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Considering implications
Regression analysis is prone to its own problems as do all methodologies for automatic price estimation
Full evaluation requires understanding of the methods used in AVM – audit should not be used merely as a stamp?
Market/Fair Value definition is not problematic, however the use of AVMs for price indices is a more touchy subject.
Assumptions!
These are some of the considerations faced when doing an (AVM) audit.
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Audit process of the Orava AVM
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Preparing the Audit Report and Statement
Limitation of auditor liability
Short form and long form
Consider the audience!
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Audit process of the Orava AVM
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Self-assesment of audit quality
ISO-standards
19011
IAASB handbook vol.
1,
section for International standards on quality control
IAASB publication “Framework for audit Quality “, Feb
2014.
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Most notable references
ISO 19011:2011. (2011) ‘Guidelines for auditing management systems’. The International Organization for Standardization.
IVS 2013. (2013) ‘International Valuation Standards’. International Valuation Standards Council.
IVSC 2013. (2013)
‘A Guide to the Audit Process for Professional
Valuers
’.
International Valuation Standards
Council.
IAASB. (2014/02) ‘A framework for audit quality – key elements that create an environment for audit quality’. International Auditing and Assurance Standards Board
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Orava REIT AVM Audit 2013
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Jamie Donovan
Contact
All input welcome!
Helsinki, Finland
📞
Phone:
+358 40 718 9135
jamie@donovan.fi
📞
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Some important terminology
Audit
systematic, independent and documented process for obtaining audit evidence (3.3) and evaluating it objectively to determine the extent to which the audit criteria (3.2) are fulfilled (ISO 19011:2011).
Internal/external
audit
Compliance
Assurance
Unqualified
/ qualified statement
High
/ low confidence of Assurance
Auditing criteria
set
of policies, procedures or requirements used as a reference
against
which audit evidence is compared (ISO 19011:2011).
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Size
: 3rd degree polynomial
Age: 3rd degree polynomial
Decor/apt condition: 4 classes – very good, good, fair, poor (dummy)
Apartment sauna / proxy for equipment (dummy)Quarterly time dummies (8 quarters)Lot ownership dummy / min. 20 observations for leasehold in dataLocation – level 1: zip code dummiesLocation – level 2: 1sqkm or 4sqkm plane around the propertyPlane can tilt both south-north & east-west4sqkm plane used if obs individual properties < 15 in 1sqkm planeWhen there are known transaction prices for valued property they are assigned a ’property dummy’. These are converted into asking prices using ’negotiation coefficient’.Apartment specific dummies may be used when verified apartment specific asking prices exist.Rental house factor is assigned to all properties for which ownership exceeds 50% and construction year is before 1990 with no transactions.rental house dummy is calculated using average of property dummies (above) from other modelsNegotiation coefficient (currently 6,21% for cities with population < 100 000 and 4,94% above 100 000.)
Variables of Orava Residential REIT in-house AVM