Testing Purchasing Power Parity in Cross-Border Real Estate Investments: Implications for International Portfolio Diversification and Exchange Rate Risk Mitigation in Nigeria

Abstract

The study examines exchange rate risk on foreign investment in Nigerian real estate and, in particular, tests the validity of relative purchasing power parity (PPP) between Nigeria and five source market countries: the United States, the United Kingdom, the Eurozone, China, and South Africa. Using a survey design, primary data were obtained from a sample of 312 respondents, including investors, developers, and fund managers operating in Nigeria. A regression analysis was used to test the relationship between changes in the real exchange rate and the inflation differential, with a slope of one representing PPP. The results indicate that the mean naira rate of return on property was 16.6 percent, while the realized return after currency conversion was reduced to between −0.3 and 5.0 percent, implying that foreign investors experienced a loss of between 11.6 and 16.9 percentage points of annual return due to naira depreciation. The slope coefficient of 0.341, significantly different from unity at t = -4.346, p < 0.001, confirmed that relative PPP does not hold in this environment. Currency risk, rather than property fundamentals, therefore becomes the primary determinant of returns for foreign investors. The paper extends the literature on parity testing in high-volatility emerging markets and recommends that the Central Bank of Nigeria deepen the naira-settled FX futures market and sustain the unified exchange rate framework introduced in June 2023, while investors adopt minimum variance hedge ratios and cross-currency diversification strategies.