Spatial Dispersion in Returns to Rental Housing: A Decomposition of Local Rent-Price Ratios

What explains the significant dispersion in the rent-price ratio of rental housing across and within U.S. metros? Conventional urban models attribute this heterogeneity to differences in rent growth expectations, although it could also reflect a dispersion in returns earned by investors. I construct local average ratios using a broad cross section of U.S. properties, neighborhoods and metros. A strong negative covariance between ratios and prices, along with a novel application of the Campbell–Shiller decomposition, rejects the null that investors’ rent growth expectations plausibly account for this dispersion. I quantify the relative importance of returns in realized data and find that 80% of within-metro and 90% of realized cross-metro rent-price dispersion is explained by differential returns, implying large risk differentials or barriers to arbitrage. These findings underscore the importance of integrating financial mechanisms in understanding the geography of housing markets and household finance.