RISK ANALYSIS IN PROPERTY INVESTMENT USING MONTE CARLO

SIMULATION TECHNIQUE
By
G.K. Babawale, B.Sc; M.Sc; ANIVS
Department of Estate Management
University of Lagos
Abstract
The conventional valuation methods widely employed by Nigerian valuers allow but for
just an implicit, vague, and incomplete aggregation of uncertainties. Given the
complexity and uncertainty that characteristics todays business climate, the growing
agitations is for a more pragmatic approach that particularly deals with the issue of risk
and uncertainty more explicitly. This paper considers the shortcomings of the
conventional approach to risk analysis in property investment and investigates the
possibilities of improved techniques using the Monte Carlo Simulation. Using a proposed
55-room hotel development as case study, the paper demonstrates the use of the singlepoint estimate which is typical of the conventional methods side- by -side with Monte
Carlo Simulation technique highlighting their relative merits and demerits. The paper
concludes that although the Monte Carlo Simulation technique offers possibilities of over
coming some inherent weaknesses of the conventional methods, its application is
presently fraught with unresolved controversies and much of the perceived benefits are
beclouded by inherent technicalities.
Introduction
Investments of all sorts involves the given up of capital sum in expectation of an
income or streams of income receivable in the future. When considering how much to
pay for an investment, investors would therefore have regard to the period over which the
expected incomes are receivable; their size and timing; their worth in real terms; and any
conditions contingent to receiving the incomes as and when due. The exact state of each
of these variables in the future is often uncertain at the time investment decision is made
which makes risk and uncertainty inevitable concomitants of all forms of investments.
Uncertainty is therefore a universal and an unsurprising fact of property valuation and the
open acknowledgement of that fact, and the transparent management of its implications,
will enhance the credibility and the reputation of valuers as well as the utility of
valuations French and Malison (2000)
Risk is often contrasted with uncertainty. While risk describes situations
where the outcome of events can be assigned probabilities, uncertainty on the other
hands, describes situations where the outcome of events cannot be assigned probabilities
(Ajayi, 1998; Byrne, 1996). Though risk and uncertainty are thus differentiated, in
practice they tend to merge. Thus, in this study the two terms shall be used
interchangeably.
Risk is often described as the chance or probability that an investment will not
achieve the expected returns. Risk is also viewed from the angle of investment volatility.
Accordingly, risk is defined or measured in terms of the variability of the expected return
i.e. the degree to which actual return could vary from expected return measured by means
of simple range or more commonly by the standard deviation (Isaac and Steley, 2000).

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The amount of risk an investor is prepared to shoulder to secure a given level of

return is generally a question of values: there is no logical criterion by which such
choices are made. However, it is expected that a prudent investor would formally define
his investment goals, identify and quantify all possible risks, eliminate certain of the
risks, transfer some, and take necessary steps to curtail whatever risks remain. He will
then decide whether or not the estimated returns are worth the risks still remaining and on
that basis accept or reject a proposal. As a general rule, the higher the risk, the higher the
anticipated return (Isaac, 1995). The whole process of investment decision can therefore
be described simply as a risk/return tradeoff. (Ajayi, 1998) To this end an investor must
have a good knowledge and a good measure of risks inherent in an investment to enable
him determine the level of return or the quantum of premium which should be sought as
compensation for the perceived level of risk. For this reason, among others, risk, like
return, needs be measured.
The remaining part of this paper examines the main features of the conventional
single-point methods of valuation on the one hand, and the probabilistic Monte Carlo
Simulation technique on the other, with special reference to how the methods measure
and account for the risks inherent in property investments.
Single-Point (Deterministic) Estimate versus Probability Distribution (Simulation)
Single Point Estimate (Deterministic) Technique
Single- point estimate techniques use what is considered as the most likely values
(technically referred to as mode) for the uncertain variables. Four conventional singlepoint estimate techniques will be examined namely; the payback period, the risk-adjusted
rate, discounted cash flow, and sensitivity analysis.
(a)
The Payback Period
The payback decision rule focuses on how long an investment takes to recover its initial
cash outlay (Fraser, 2004). The longer the time the riskier the investment is regarded to
be. As a time concept, payback period is particularly useful in assessing certain risks of a
time nature. The approach is thus relevant to investments that are highly vulnerable to
rapid changes in tastes, fashion, and other projects that hinge on an innovation which
cannot be protected by patent, and is likely to be copied by other firms within a short
time, or where political uncertainty necessitates recouping initial capital fast. However
time-related risks by no means constitute any appreciable proportion of the commonly
encountered risk in the property investment market.
(b)
The Risk-Adjusted Discount Rate
This is the method that is most widely used for treating risk in traditional valuation
practice. It attempts to handle the problem of risk in a more direct and strategic way
(Isaac, 1995). Generally, investors are risk-averse and therefore require a reward for
undertaking a risky project (Ziering and Mclntosh, 1999). The more risky the project the
greater must be its expected return if investors are to be persuaded to undertake it. It is
this relating of returns to the level of risk perceived that the method is most credited and
that makes it intuitively appealing. The method attempts to account for risk by adding

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Risk Analysis in Property Investment using Monte Carlo Simulation Technique: Babawale

some premium to reflect the level of risk perceived (Byrne and Lee, 2000). The addition
of risk premium lowers the value of the project so that the project becomes less attractive.
The higher the risk assumed, the higher the premium. There is however no consensus as
to the procedure for estimating and quantifying the perceived risk and the appropriate
degree of adjustment. That is, the method fails to identify and justify the reasoning
behind the choice of the risk premium.
(c)
Discounted Cash Flow
The Discounted Cash Flow (DCF) improves on the risk-adjusted discount rate approach
by introducing some measure of complexity and time dimension (Ajayi, 1998). Thus the
DCF enables variables such as income variations, inflation growth, tax relief or holiday
period, depreciation, among others, to be explicitly taken into account while the time
value of money is given adequate treatment. Two variants of DCF technique that are in
common use are the Net Present Value (NPV) and the Internal Rate of Return (IRR)
methods. Others include the Annual Equivalent or Annuity method, the Net Terminal
Value method and the Cost Benefit Ratio. Algebraically, DCF can be expressed as:
t=n

NPV =
t=0

- Capital cost
Bt
t
(1+i+p)

Where P is the risk premium, i is the cost of capital or the opportunity cost rate, and n the
length of the holding period.
DCF in itself is however not a true measure of investment risk apart from making the
appraisal process more explicit and pragmatic (Isaac, 1995).
(d)
The Sensitivity Analysis
Sensitivity analysis is a more conscious attempt at spelling out investment risk. It
recognizes that the values of the inputs can vary and hence give rise to variations in the
output. Sensitivity analysis tests the outcome of changes in the variables on the project
returns (Kalu, 2001). The variables that have more than proportionate impact on the
viability of a scheme are the critical variables on which risk analysis must concentrate.
Therefore the method helps to identify the critical variables for further risk analysis
(Ajayi 1998). It does not itself provide any clue to the nature and quantum of inherent
risk. That is, it fails to provide any answer to the probability and the degree of change
that can take place. Subjective description of events as likely, unlikely, or perhaps
very likely, is capable of different interpretations by different people.
Sensitivity analysis therefore provides only a first step in risk analysis. Further
steps are required to assess the probability for each of the expected outcomes. The only
explicit language for expressing uncertainty or risk is probability.
Common Limitations of Single-Point Estimate Techniques
A feature common to all these single-point estimate techniques is that they all make use
of only the best estimates of the variables to produce the best estimate of whatever
investment worth is required (NPV, IRR etc). The best estimate however represents just
a few points on a continuous curve of possible combinations of future occurrences. It

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does not tell the whole story. It does not, for instance tell us what chance the investment
has of achieving the best estimate or perhaps, of making a loss.

Probability of Achieving
Rate

Fig. 2: Probability of Achieving 45% Occupancy (property B)

45
40
35
30
25
20
15
10
5
0

10

20

30

40

50

60

70

Occupancy Rate

Fig 1 and 2 above show the distributions of hotel room occupancy rate for two different
properties. Both distributions have the same best estimate or most likely value of
45%. However, the distribution depicted in fig 2 is skewed to the left, which implies that
the analyst is of the opinion that an occupancy rate lower than the average is more
probable. The opposite is true of the distribution in fig 1. Secondly, the most likely
value of the distribution in fig 1 has a better chance of occurrence (60% probability) than
that of 2 (40% probability). Thirdly, the distribution 2 is more spread i.e. more volatile
(or more risky investment) than 1.

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Risk Analysis in Property Investment using Monte Carlo Simulation Technique: Babawale

Furthermore, each of the most likely values involves its own degree of
uncertainty and their combined uncertainties could multiply to a total uncertainty of
critical proportion. For instance, if we assume that the most likely value for each of the
nine (9) variables involved in our example (Table 1) has 80% chances out of 100
(i.e.80%) of being correct, there will be only 13% (0.809) chance of achieving the
expected output (IRR or NPV) as suggested by the single-point estimate. Thus, the return
calculated using 'most likely estimates depends on a rather unlikely coincidences.
Probabilistic Approach (Simulation)
Simulation is a technique that uses a model to imitate real-life situation, and then studies
the system characteristics and behaviour by experimenting with the model (Moskowitz
and Wright, 1979). Without the aid of simulation, a spreadsheet model will only reveal a
single outcome the most likely or average scenario as illustrated with the conventional
techniques examined above (Byrne, 1998). A typical example of simulation technique is
the Monte Carlo simulation technique, which is a sampling procedure whereby
complicated expressions involving one or more probability distributions may be
evaluated.
The first step in Monte Carlo simulation technique is to identify the variables and
specify which of them are control and which are state. Control variables are those
whose values are fixed over time and as such takes a single value as in the single-point
model. Also variable factors whose variability does not significantly affect the margin of
profit are sometimes treated as control variables. State variables on the other hand, are
variables that take on different values with the passage of time. Sensitivity analysis is the
technique usually used to distinguish between fixed` and `control variables.
Specifying the probability distributions of the state variables is often thought to be
the most difficult and controversial part of the Monte Carlo Simulation (Moskowitz and
Wright, 1979). Probability can be assessed subjectively or by the use of relative
frequency concept.
The concept of relative frequency provides an objective process of assessing
probability and originated from situations such as games of chance where plays or
experiments are repeated a considerable number of times and where the events of interest
can be assumed to be equally likely. Professional offices do keep records and statistical
data that can be used to estimate probability. For instance hotel premises rental and
capital value, room occupancy rate and tariff can be obtained from hoteliers, auditors,
estate agents and valuers; while trends in mortgage rates, amortization period and other
terms of debt financing can be obtained from past records of relevant financial houses.
Where information of this type is available in the right quantity, probability
distribution using relative frequency concept can be constructed. In majority of the cases,
however, relevant information is not available in the required quantity apart from the fact
that there are many events, which can be thought of in probabilistic terms but cannot be
given relative frequency interpretation. This is where subjective probability is
fundamental to the analysis of many decision problems in businesses of all sorts.
Subjective probability is based on the premise that every one has a degree of
belief concerning the likely occurrence of some events relevant to them or their physical,
social or economic environment, and that this personal beliefs can be quantified in
probabilistic terms. As the approach is personal, assessment would expectedly vary from

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person to person. However, as the same quantity and quality of information becomes
available to all assessors, there should be a reasonable degree of consensus.
If the highest degree of accuracy is desired, subjective probability should, as
much as possible, be elicited from relevant experts e.g. interest rates from bankers; and
rental values from estate valuers or agents. The elicitation process usually takes the form
of structured questioning of the expert with the aim of translating vague expressions such
as most probable, quite likely, etc into numerical equivalents in the probability scale
from 0 to 1. Various technical aids may be used to help in the process (French, 1986;
Raiffa, 1968).
In studies involving large number of variables, some of the variables may be
interdependent. Where interdependency exists, estimates of the correlation between the
interdependent variables must be obtained and introduced into the model by means of
conditional probability distribution.
Case Study
The objective of this case study is to compare and contrast the deterministic or single
points approach and the probabilistic model (Monte Carlo Simulation) as alternative
models for risk analysis in property investment.
The case study is a 55-room five-Star hotel to be developed on a 1.2 hectare (2.97
acres) parcel of land west of the University of Calabar campus, Cross-River State.
The main block is a 3-storey (i.e. on four floors) building comprising of 3,500 square
metres of useable floor space to provide 15 Single Chalets, 25 Double Chalets, 12 Junior
Suites, and 3 Executive Suites.
The variables for the case study are distributed as follows:
Fixed Variables:
1. Total number of rooms 55
2. Investment Horizon
10 years
3. Debt Capital
1.5billion
4. Amortization Period
5Years

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Risk Analysis in Property Investment using Monte Carlo Simulation Technique: Babawale

Table 1 The State Variables

NO

VARIABLES

INVESTMENT PER ROOM

(i)
Most likely
(ii)
Pessimistic/Optimistic
OPERATING COST (% of total
revenue)
(i)
Most likely
(ii)
Pessimistic/Optimistic
INFLATIONGROWTH RATE (%)
(i)
Most likely
(ii)
Pessimistic/Optimistic

DETERMINISTIC
APPROACH

N50,000,000
-

PROBABILISTIC
APPROACH

N50,000,000
N48,000,000-N55,000,000

48
-

48
43

51

10.5%
-

10.5%
8.5%

REPLACEMENT AND
REFURBISHMENT COST AT END
OF HOLDING PERIOD
(i)
Most likely
(ii)
Pessimistic/Optimistic
ROOM OCCUPANCY RATE (%)
(i)
Most likely
(ii)
Pessimistic/Optimistic
AVERAGE TARRIF RATE
(i)
Most likely
(ii)
Pessimistic/Optimistic
GROWTH OF TARRIF RATE (%)
(i)
Most likely
(ii)
Pessimistic/Optimistic
SALE VALUE AT END OF HOLDING
PERIOD
(i)
Most likely
(ii)
Pessimistic/Optimistic
MARGINAL TAX RATE (%)
(i)
Most likely
(ii)
Pessimistic/Optimistic

12.5%

N160 Million
N160 Million
-

75
-

N120 Million - N200 Million

6.5
-

38
-

90

N50,000
N40,000- N 60,000

N50,000
-

N2,800 Million
-

75
-

60

6.5
-

3.5

8.5

N2,800 Million
N1,900Million-3,200 Million
38
35

42

Single-Point Approach
In the single-point model, only the most likely value of each variable is used to compute
the most likely rate of return. The variables include number of guest rooms, amount of
debt capital, repayment period, investment per room etc.
Computed on the basis of the most likely estimates, the DCF analysis produces
25.99% as the most likely return on equity. The single point approach therefore suggests
that the investment is prima facie viable. But this could be rather presumptuous. Hertz
(1964) remarked that the approach ---- is a bit like trying to predict the outcome in a
dice game by saying that the most likely outcome is a 7. The description is incomplete
because it does not tell us about all other things that could happen. A prudent decisionmaker would, for instance, like to know about other possibilities (returns) as well as the

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chances he stands of receiving his desired return; of achieving less than the most likely
return or; of making total loss.
Probabilistic Approach (Monte Carlo Simulation Technique)
Today countless numbers of special computer programmers and languages have been
developed as simulators. Some specific applications include inventory control, waiting
line and financial analysis.
Quite often, however, a situation may not fit an existing programme, in which
case the analyst can write his own programme using general-purpose computer
programming language like FORTRAN, BASIC or COBOL.
For this study, the author used the Basic language to write a computer programme
as simulator for the investment under consideration. The programme is versatile
incorporating possible changes even in the value of the control variables and is capable of
computing thousands of possible rates of return net or gross, on equity as well as on total
capital. Only limited features of the programme can be included here because of space.
LINES 300-315: instruct the computer to generate nine random numbers with values
ranging between 0 and 99. These random numbers are used later to select specific values
for each of the state variables.
LINES 330-910: the computer having generated random numbers for each of the state
variables will perform a number of tests on each variable to decide which of its various
outcomes has the selected random number falling within its range of random numbers.
LINES 1110-1575: using the formula:
C = 1
(1+R)1 +

1
1
2
N
(1+R) + (1 +R) ----- (2)

Where,
R = internal rate of return
C = initial capital outlay
N = investment time horizon in years,
Values of state variables randomly selected from their respective probability distributions
are combined with those of control variables to calculate the internal rate of return on
total or equity capital. Different trial rates are used to discount the cash flows until the
one that approximately equates the sum to initial capital outlay is found. This represents
the Internal Rate of Return (IRR). This process is repeated in sufficient number of times
to reduce sampling error to the minimum and from the resultant constellation of rates of
return, probability distributions can be derived. This information can then be analysed
further to reveal the risk characteristics of the proposed investment more explicitly.

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Risk Analysis in Property Investment using Monte Carlo Simulation Technique: Babawale

Statistical Results
The range of returns generated is between 11.52% and 50.92%. The frequency, relative
frequency, and cumulative frequency are shown in table 1 below. From this table, further
statistical analysis can be carried out as shown in Tables 5, 2 and 3 as well as Figures 3-7.
Table 1: Frequency Distributions of 500 Possible Rates of Return (Net) on Equity
Capital.
CLASS

FREQUENCY

RELATIVE
COMMULATIVE
FREQUENCY
REL. FREQUENCY
16
24
0.048
0.048
16-20
86
0.172
0.220
20-24
128
0.256
0.476
24-28
136
0.272
0.748
28-32
55
0.110
0.858
32-36
43
0.086
0.944
36-40
17
0.034
0.978
40-44
11
0.022
1.000
500
1.00
Table 1 shows the frequency, relative frequency, and the cumulative frequency developed
from 500 possible rates of return (net) on equity capital generated by randomly
combining various values of the control and state variables. From the same information,
Table 2 calculates the dispersion or variability of the distribution i.e. the range and the
standard deviation
Table 2: Mean and Standard Deviation of 500 Possible Rate of Return (Net) on
Equity Capital
CLASS

CLASS
MARK
(xi)

PROBABILITY
(Pi)

Pixi

xi-E(xi)

(xi-E(xi))2

Fi(xi-E(xi))2

16
16-20
20-24
24-28
28-32
32-36
36-40
40-44

14
18
22
26
30
34
38
42

0.048
0.172
0.256
0.272
0.110
0.086
0.034
0.022

0.672
3.096
5.632
7.072
3.300
2.924
1.292
0.924

-10.912
-6.912
-2.912
1.088
5.088
9.088
13.088
17.088

119.07
47.78
8.48
1.18
25.89
82.59
171.30
292.00

5.72
8.22
2.17
0.32
2.85
7.10
5.82
6.42

pi(xi-E(xi))2 = 38.62
E(xi) = pixi=24.91
Distribution Mean (E(xi))=pixi = 24.91%
Distribution Range = 50.93%-11.32% = 39.61%
Standard Deviation (d)= pi(xi E(xi))2=
38.62 =

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TABLE 3: PROBABILITY DISTRIBUTION

RETURN (NET)
ON EQUITY
CAPITAL

PROBABILITY
OF ACHIEVING
RETURN

16
20
24
25
28
30
32
40

PROBABILITY OF
NOT ACHIEVING
RETURN

10.6
21.25
26.3
26.7
18.8
11
10.25
2.8

PROBABILITY ON
ACHIEVING EQUAL
OR GREATER THAN
RETURN (%)

4.8
22
47.6
48
74.8
83.5
85.8
97.8

95.2
78
52.4
52
25.2
16.5
14.2
2.2

Table 3 calculates the probability of achieving, or not achieving, or achieving less or

greater than a range of possible net returns on equity capital from the same constellation
of returns. Figures 3-7 are pictorial and graphical illustrations of some of the distributions
in tables 1-3
FIG URE 3 : FREQ UENC YD ISTRIB UTION OF 5 0 0 PO SSIB LER ATES OF R ETUR N (NET) ON E QU T
I YC APITAL

1 60
1 40
Y
C
N
E
U
Q
E
R
F

MODAL CLASS = 24 28

1 20
1 00

MODE 24 +

80
60

4
8
x

8 + 81 1

24.36%

40
20
0

16

20

24

28

32

36

40

RETURN(NET) ON EQUIT Y CAPIT AL

MODE = 2 4.36%

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Risk Analysis in Property Investment using Monte Carlo Simulation Technique: Babawale

RELATIVE FREQUENCY

FIGURE 4: RELATIVE FREQUENCY OF 500 POSSIBLE

RATE OF RETURN (NET) ON EQUITY CAPITAL
1
0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
0

20

16

32

28

24

36

40

RETURN (NET) ON EQUITY CAPITAL

FIGURE 5; PROBABILITY DISTRIBUTION OF 500 POSSILE RATES OF RETURN (NET) O N EQUITY

CAPITAL

E
B
L
IL
W
E
T
A D
R E
T V
A E
H I
T H
C
Y A
T
I
IL
B
A
B
O
R
P

30
25
20
15
10
5
0
16

20

24

25

28

30

32

40

RETURN (NET) ON EQUITY CAPITAL

1
0 .9
0 .8
0 .7
GIV EN RATE

P ROBABILITY OF ACHIEV ING LES S THAN

F I G U R E7: C U M U L A T I V E D EN S I T Y O F F U N C T I O N O F 5 00
P O S S I B L E R A T ES O F R ET U R N (N ET ) O N EQ U IT Y C A P I T A L

0 .6
0 .5
0 .4
0 .3
0 .2
0 .1
0
16

20

24

28

32

36

40

44

R ET U R N (N ET ) O N T O T A L C A P I T A L

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PROBALITY THAT RATE

WILL BE ACHIEVED OR
EXCEEDED

FIGURE 7: CUMULATIVE DENSITY FUNCTION OF 500 POSSIBLE

RATE OF RETURN (NET) ON EQUITY CAPITAL
1.000
0.900
0.800
0.700
0.600
0.500
0.400
0.300
0.200
0.100
0.000
16

20

24

28

32

36

40

44

RETURN (NET) ON TOTAL CAPITAL

From Tables 1 to 3 and Fig. 3 to 8, it is apparent that the Monte Carlo Simulation
technique, while making use of the same set of data, produces more comprehensive and
helpful results. The technique enables us to derive the risk/return combinations, which, as
we have noted, is the critical consideration in any investment decision. Analysis of
computer outputs further reveals that the investment promises a return (net) on equity
capital of 24.91% just a little less than that arrived at using the single point estimates
(25.99%). But this is not all. Fig. 7 suggests that the expected return of 24.91% has just
about 26.3% chance of occurrence, that the investor stands only 26.7% chance of
achieving the minimum return required (25%), 48% chance of receiving less than this
minimum figure, and 52% chance of achieving 25% or more.
In terms of variability, the spread of the probability distribution (Fig 5), and the
very steep slope of Fig 7 suggests that return on the investment is very volatile. The range
of equity return distribution is a very big 39.61% while the standard deviation is 6.21%.
Another measure of importance is the mode the most likely return , which has been
estimated at 24.36%. The median is 24.72%, which simply implies that the investment
has a 50-50 chances of achieving 24.72% return (net) on equity capital.
It is significant to note also that the distribution approximates to normal with the
mean, mode, and median almost of equal value: 24.91%, 24.36%, and 24.72%
respectively though it is a little bit skewed towards the right (Fig 5). Thus, apart from
many other readings that can be made from Fig 7, we can carry out more calculations
using the table of areas under a normal curve.
The results from Monte Carlo simulation suggest that the likely performance of
the proposed investment is not as encouraging as the single-point estimate approach
would want us to believe. Not only does the expected return fall short of the investors
minimum requirement, but more importantly, the chances of anything beyond 20% equity
return is poor, while the return is highly vulnerable to sharp changes.

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Additional information like this provides an essential backup to investors judgment,

assures him that available information has been used with maximum efficiency, and gives
greater credibility to the advice and recommendations he receives. Similar calculations
can be carried out on total capital, net or gross.
Conclusions
While everyone must take risks to succeed, blind risks too often lead to costly errors. The
failure of the conventional models to measure and express risks inherent in real estate
investment explicitly is no more in doubt, what remains unsettled is the efficacy of the
new models being paraded within the industry as panacea. Apart from the claim by
sociologists and psychologists that most people are reluctant to adopt new ideas which
they find are at variance with presently held beliefs, more still have to be done to enhance
the reliability and objectivity of models such as Monte Carlo Simulation. Thus, in spite of
the fact that Monte Carlo Simulation has been an important component of quantitative
risk analysis since the mid-1960s (Hertz, 1964) and though several authors have
particularly advocated the application of these ideas to property investment and
development (MacFarlane, 1995; Martins, 1978; Pellat, 1972;) these accumulated
literature seem to have had little, if any, impact on the practice of property investment or
development as far as financial risk assessment is concerned.
Time, no doubt is required to disseminate and assimilate this new line of thinking
before decision maker start to acquire confidence in probabilistic models for planning and
decision making. Further, subjective probability assessment and the concept of cardinal
utility are areas of unresolved controversy. The existence of utilities and subjective
probabilities derives from some fundamental behavioural assumptions called axioms, and
it is only when people conform to these axioms that both concepts can be considered
valid.
In spite of the apparent shortcomings and limitations of the Monte Carlo
simulation technique, it has opened a new chapter in the history of property investment
appraisal, offering as demonstrated above, a more explicit and comprehensive approach
than the single point approach. By treating uncertainty explicitly rather than intuitively,
probabilistic models ( Monte Carlo Simulation ) present a more realistic approach to
analyzing real estate investment that is reputedly complex, volatile, and fraught with
numerous uncertainties. The technique helps to gain a richer understanding of the
inherent risks, frees the analyst from the constraints of estimates and best guess values;
helps to know the possibility of a particular outcomes which may be crucial for a
successful negotiation; while the accompanying sensitivity analysis helps to identify the
factors that actually drive results so that resources can be focused on the right problems.
Monte Carlo Simulation tables, graphs and reports also present a more professional and
convincing way to show the clients, investors, financiers, and other stakeholders that the
analyst has looked into all possibilities and made informed choices and decisions. There
is therefore no reason why this risk analysis technique, which has proven itself highly
efficient in the evaluation of other forms of investment, should not prove equally
beneficial to analysts in the real estate sector.

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Journal of Land Use and Development Studies

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