Urban Land Valuation Under Uncertainty: A Tale from Tanzania’s Real Estate Market

Abstract

Although the existing literature reveals that the option pricing models approximate better land values over the Net Present Value approach, practically no study has explored its explanatory power in a Tanzanian context. The current study employs the option pricing theory, where the diffusion process of both the value of the underlying property and implementation costs are stochastic variables, is employed in order to adequately determine the option-based value of land value. The values generated based on the option pricing theory and both to the Government‟s proposed land estimates (based on appraisal estimates) and to industry proposals which essentially reflect the market price are compared. An empirical analysis reveals that the option pricing and estimation model present a better approximation of land values relative to appraisal based estimates. While the option based land values exceeded appraisal estimates, the mean land value based on the option model is within the market based values. Indeed, the results generated in this study provide an insight not only of how the model performs empirically, but also a comparison between real option values and transaction prices

Key Words: Property Market, Land price, Valuation, Real option, Uncertainty