Question

You are an investor looking to purchase a house that provides the best value for money. You examined some recent rigorous hedonic studies and formulated the following equation for the fair market value of a house:

P = aX + bA

Where:

P = The fair market value of the house in pounds

X = The floor area of the house in square metres

A = A dummy variable equal to 1 if the house has a distinctive view and 0 if it does not

a = 2,500

b = 16,000

You have identified two similar properties in similar locations. Table 1 summarises the characteristics (attributes) of these houses.

Table 1: House characteristics.

	Floor space (m2)	Distinctive view	Asking price (£)
House A	120	No	299,000
House B	115	Yes	301,000

1.1 Based only on the information about the floor space and price provided in Table 1 (assuming that you don’t know about the view), which house initially seems as though it offers the better deal per square metre? Support your answer with calculations and limit your answer (excluding calculations) to 30 words. Round your calculations to the nearest pound.

1.2 Calculate the hedonic prices of House A and House B, taking into account both the square metreage and the presence or lack of a distinctive view.

Start writing here:

1.3 Using your answers from 1.2, which house would you purchase, given your investment goals (which is to maximise value)? Support your answer with calculations and limit your answer (excluding calculations) to 50 words.

Start writing here:

Answer 1

Answer) Since answer has asked for less word limit,I will try to limit my answer as much as possible

1. ) Formula for calculating lesser cost per square metre(equivalent to better deal based on square metre alone)=Asking price of house/Floor space in square metre

• Cost per square metre for House A=£299,000/120=£2491.66=£2492(rounding to nearest pound)
• Cost per square metre for House A=£301,000/115=£2617.39=£2617(rounding to nearest pound)
• Based on better deal for cost per metre,I will go for House A

2. ) Hedonic pricing implies that pricing considers different factors affecting prices of a good,like in this case distinctive view,we will calculate hedonic prices of houses A and B using the equation of fair value in question

P = aX + bA

Where:

P = The fair market value of the house in pounds

X = The floor area of the house in square metres

A = A dummy variable equal to 1 if the house has a distinctive view and 0 if it does not

a = 2,500

b = 16,000

• Hedonic price of House A=2500*120+16000*0 =£300,000
• Hedonic price of House B=2500*115+16000*1=287500+16000=£303,500

3. ) I as an investor will look for what is benefit I am making based on my hedonic price based on 1.2,both in absolute as well as percentage terms,for absolute value formula will be hedonic price of house-asking price of house,for percentage benefit,formula will be [(hedonic value of house/asking value of house)*100]-100

• Absolute benefit for house A=£300,000-£299,000=£1,000
• Percentage benefit for house A=[(£300,000/£299,000)*100]-100=100.33-100=0.33%
• Absolute benefit for house B=£303,500-£301,000=£2,500
• Percentage benefit for house A=[(£303,500/£301,000)*100]-100=100.83-100=0.83%
• Thus both in absolute profit and in percentage House B is better from investment point of view

Answer is complete.Thank you!