When ignorance is bliss, 'tis folly to have market knowledge.
I often give the media and real estate academics a hard time for creating more confusion than clarity about the real estate market, but this week I'll willingly give credit to a fellow agent for performing the same service.
This agent writes a brief weekly real estate advice column for my local throw-away, a paper-and-ink activity that in the era of electronic communication might be dissed as archaic except that it seems to work: my wife and, no doubt, many other solid citizens faithfully read it to get the low-down on real estate. And usually they get it, but recently this agent strayed outside her field of expertise, selling big-ticket homes in posh neighborhoods (it's a tough job, but somebody's got to do it). Hilarity ensued.
Here's how. Reader writes to complain that a "realtor" has done an "appraisal" of his home using two foreclosures sold on his street within the past eighteen months. "That doesn't seem right to me, as I am under no duress to sell", he says. Is this how every "realtor" values homes, he asks tartly, or should he find another?
Sorry fella, responds our real estate Dear Abby, but foreclosed homes are indeed used by agents when "suggesting a list price". The sales prices of bank-owned homes "are part of public records" and can't be swept under the rug. Foreclosures, she adds, are valuable indicators because they indicate a "softening" of home prices. In addition, they're often "a blight on the neighborhood, with lawns turning brown and the house being uncared for". She advises Reader that if he's in no rush to sell, "it might be better to wait until your street rids itself of a distressed appearance".
She backs her argument with irrefutable "science": a Harvard study "which states that any property within one hundred and fifty yards from (sic) a foreclosure suffers a 7% loss in value", a number that, "frankly", she thinks is conservative, "especially if there is more than one in the immediate area".
A short and innocent response, value-packed with misunderstanding. So where do we begin?
How about with the idea that "realtors" (whom we'll call agents) do appraisals? Agents can't do appraisals; only appraisers can do appraisals. Agents can, and often do, CMAs (Comparative Market Analyses) for prospective sellers, which prospective sellers no doubt often mis-identify as appraisals. Agents also do Broker's Price Opinions (BPOs) for banks or to value a home for an estate.
Next let's move to the idea that sales eighteen months old are good comps in any but the most glacial of markets. Eighteen-month old comps are probably useful in any number of real estate markets located inside the Artic Circle.
Now let's examine the idea that Reader's motivation or lack thereof affects the value of his home. Reader isn't the only one laboring under this misapprehension. Plenty of buyers (and, even worse, their agents) march right up to the listing agent and demand, "Why are your clients selling?", as if the answer means something. They're hoping, I guess, to hear, "Because my clients are down to their last thin dime and worn-out pair of shoes and desperate to give their home away to the first perspicacious buyer with a low-ball offer". Ka-ching!
Except the market doesn't work that way, at least not in this area. When tens or hundreds of potential buyers can see a home on the Internet, and when sellers are advised by their agents to stick to "offer dates" and not take the first offer that comes along—unless it's everything seller hoped for and more—no seller is going to give away, and no buyer is going to steal, a property. (On the other hand, home theft can happen to a homeowner who tries to "save on the commission" by selling off market and without an agent.) A home properly exposed to the market and properly priced will sell at market value—not below and, contrary to the old wives' tales about multiple offers, not above.
No matter why the seller is selling.
Now it's time to examine Agent's contention that foreclosures (aka bank-owned homes) must and should be used as comparables when valuing a non-bank owned home. As I've said elsewhere, 99.999 percent of the bank-owned homes I've seen are hammered, beat on, rode hard and put away wet etc. and by all indications they were in less than pristine condition when the defaulted and departed owner acquired them. This patina of abuse characteristic of the bank-owned home is enough to make you think that buyers with risky financing had an unhealthy obsession with crummy homes, but there's more to the tragedy than that: buyers with risky financing were invariably buyers buying in neighborhoods where affordable homes are almost always crummy.
So it sounds like Agent hasn't heard one of the biggest objections agents have to appraisals done since the downturn: that appraisers sometimes use hammered bank-owned homes to appraise the value of well-maintained non-bank owned homes. In fact, Fannie Mae recently responded to industry complaints with appraisal guidelines that warn appraisers to use bank-owned homes as comps only if they're truly in comparable condition.
So "realtors" don't have to use bank-owned homes as comps. In fact, it's usually a really bad idea.
Now that we've cleared up that little misconception, let's shift our focus to the idea that bank-owned homes are invariably a blight on the neighborhood. I'm sure this is sometimes and maybe even often true; I've been able to identify bank-owned homes in the MLS just by the brown lawn. But almost all the way-too-many bank-owned homes I've seen have been in neighborhoods where brown lawns and other signs of deferred maintenance are not uncommon. Which means that Reader might have a long wait before his street "rids itself" of blight. Good thing he's under no duress to sell. "I'll just sit on my porch and wait thirty years for gentrification."
And finally, let's wrap our minds around the biggee, the idea that foreclosures are somehow like cancer cells metastasizing through the immediate neighborhood, lowering the health and vitality of its property values. I get into this more in another posting, but for now I'll repeat that, once again, the academics remind me of bad physicians who confuse symptom with cause, and, once again, everyone else accepts this misdiagnosis as "science". Foreclosures have no effect on property values simply because they're foreclosures. How do I know this? Because you can plunk a bank-owned home in the middle of an affluent suburb like Palo Alto, barely touched by the foreclosure crisis, and it won't drive down neighborhood property values at all, let alone by Harvard's 7 percent. Why not? Because one foreclosure is an anomaly, easily shrugged off by a market, and not a trend.
But as soon as bank-owned homes are a trend—like when your street has two bank-owned sales in the past eighteen months, or four, or six—then you've got a problem. Not because of those bank-owned sales themselves, but because of what they indicate: a neighborhood market in distress. A neighborhood hit hard by homeowners with bad loans they can't afford. Or by homeowners who've lost their jobs. Or by homeowners who've stopped paying their mortgages because their homes are worth half what they paid and their lenders won't modify their loans so let's just walk away. Or all the above. All of which dumps a ton o' inventory on a neighborhood real estate market at precisely the moment buyers for those homes disappear, either because their financing disappears or their jobs disappear or their confidence in real estate disappears or all the above.
In other words, it's not about bad house ju-ju or voodoo economic forces, those favorite (and so pre-scientific) market movers of the academic real estate economist. Instead, it's all about supply and demand: a torrent of supply, overwhelming a trickle of demand.
Not advanced thinking unless, like an economist or a top-end agent, you've never sold, and may never have seen, a typical bank-owned home nestled in the bosom of a typical bank-owned neighborhood. And if you haven't, God bless you. Your ignorance is enviable. Not laudable, but enviable.