Heterogeneous Information and Appraisal Smoothing

Abstract

This study examines the heterogeneous appraiser behavior and its implication on the traditional appraisal smoothing theory. We show that the partial adjustment model is consistent with the traditional appraisal smoothing argument only when all the appraisers choose the same smoothing technique. However, if appraiser behavior is heterogeneous and exhibits cross-sectional variation due to the difference in their access to, and interpretation of information, the model actually leads to a mixed outcome: The variance of the appraisal-based returns can be higher or lower than the variance of transaction-based return depending on the degree of such heterogeneity. Using data from the residential market, we find that, contrary to what the traditional appraisal smoothing theory would predict, appraisal-based indices may not suffer any “smoothing” bias. These findings suggest that the traditional appraisal smoothing theory, which fails to consider the heterogeneity of appraiser behaviors, exaggerates the effect of appraisal smoothing.