Why many risks affect the expected cash flow, not the Target Return.
Learning outcomes
- Identify the difference between diversifiable and structural risks
- Understand why renewal probability, default risk and reletting periods belong in the cash flow
- See how an expected cash flow already captures diversifiable uncertainty
- Learn the baseline rule: no Target Return adjustment is required for diversifiable risk
Description
Investment Worth is based on expected cash flow, which incorporates:
- expected rental growth,
- expected renewal probabilities,
- expected letting periods,
- expected tenant default rates.
Worth uses probability weighted expectations: therefore diversifiable risks are reflected in the cash flow, not in the discount rate.
A single Target Return can therefore be applied across assets unless there is a structural difference in income security or risk.
