The Dynamics of Real Estate Pricing

There are far too many dynamics that affect real estate pricing to discuss in one post of course. But one important one, time and again that we see, relates to price adjustments, how to make them, and when to make them.

Our experience shows that price adjustments are most effective:

• early in the listing period; in other words, get the price right up front and price for the market you are in, not for the market you want to be in, and

• in fewer, more dramatic increments to get a "bang" in the market, especially since any interested parties will be watching the property for significant movement, and also it takes a dramatic incremental move to expose the property to new price-point buyers in the market. $5,000 increments over time will accomplish little more than a slow ineffective leak in the price with little to no impact... resulting in a lower sale price and longer time on market.

This is of particular interest right now because of parallels with the larger discussion about the best size and scope of government responses to a slowing economy. While it is natural and correct to be concerned about future deficits, most economists seem to agree at this point that doing too little right now is a far greater risk than doing too much.

From the recent Nobel-winning economist Professor Paul Krugman this
morning:

The idea that tight fiscal policy when the economy is depressed actually reduces private investment isn’t just a hypothetical argument: it’s exactly what happened in two important episodes in history.

The first took place in 1937, when Franklin Roosevelt mistakenly heeded the advice of his own era’s deficit worriers. He sharply reduced government spending, among other things cutting the Works Progress Administration in half, and also raised taxes. The result was a severe recession, and a steep fall in private investment.

The second episode took place 60 years later, in Japan. In 1996-97 the Japanese government tried to balance its budget, cutting spending and raising taxes. And again the recession that followed led to a steep fall in private investment.

This is remarkably parallel on a macro level to what happens when a property is on the real estate market. Incremental adjustments are fine when the market is on solid footing - sometimes small moves can be effective -- in tight markets. But as Joe Kernen on CNBC Squawk Box this morning keeps mentioning a very instructive quote from Barrons over the weekend: "Now is not the time for the Fed to act like a blushing virgin." Adds Kernen, "This is the time to be a big ol' hooker..." (See 1:40 mark for discussion of rescue size, 1:51 for quotes, and don't miss discussion of oil price impact/non-impact at 1:15 mark in video.)

In other words, in extraordinary market challenges, the markets require bold action, bold responses. This is a time to pull out all the stops, and leave everything on the road, including mixed metaphors.

Success in the market right now requires bold action, and it requires a recognition by sellers of the true nature of this market right now. Sellers who can adapt to current market conditions and offer appropriate market incentives, including price, will be today's winners in the market. Ironically, they will sell for more and they will sell faster, both of which bring the optimal financial outcome.

It is what it is right now. And no amount of clapping is going to make this a different market. Sellers ignore this at their own financial cost.

Pay No Attention to Averages

Okay, seriously, this is getting way out of hand. The national media keep reporting national numbers related both to commercial and especially the housing market that are averages.

First, let's review the difference between an "average" and a "median," because you'll see both terms thrown about.

• An average is a generalized number meant to represent any particular instance as a generic example. So, if there are 3 houses on a street worth i) $100,000, ii) $200,000, and iii) 400,000, then the average is $100k + $200k + $400k divided by 3 = $233,333 is the average price. But how useful is that if you're trying to figure out what your house is worth one street over? (Hint: Not very useful at all.) So averages are generic. And they're fine when the set of numbers being averaged fall into a close range.

• A median is the number for which 1/2 of all things are above, and the other 1/2 are below. So in any neighborhood, if the median price of a home is $200,000, then that means that half of the homes in the neighborhood are priced above $200,000 and half of the homes are priced below $200,000. This is more helpful, but still does not tell the whole story.

So an average is really just a melting pot of statistics, and the bigger the pot, and the more things thrown in all melted together -- well how much does that average number really tell you? Not a lot, especially in real estate.

An "average" would be okay when talking about the national housing crisis if all parts of the country were experiencing basically the same problems and had the same history and outlook. But that's not at all the situation. There are parts of the country where the housing bubble absolutely exploded like Dutch tulips, beyond all reason. In other parts of the country, such as in Houston, housing prices never really accelerated all that much as new supply kept up with new demand.

Consequently, Houston is not seeing the same downturn that many other parts of the country are seeing -- because Houston never really saw the run-up that other parts of the country were seeing in the past 5 to 10 years. So Houstonians really need to look at their own local data to get a better grip on the local housing market and should really disregard the national reports when thinking about the local market.

The story in Houston right now is that while the number of sales are down over 20% year-over-year right now (last year there were about 20%+ more sales happening), the prices of those sales are actually holding firm within a couple percentage points, in stark contrast to the national statistics and especially the national averages.

In the future, we should discuss What Really Drives Real Estate Values of What You Own, and also what's behind the statistic "Average Months of Inventory." Both are confusing, even to people in the industry.

Update November 25, 2008: Here's another story with a big "price plunge" headline that Houstonians should ignore.

For the Record: November Three Years Ago...

For the record, I wrote the following three years ago this November. Humility is no virtue of mine. However I'm in no way saying this view has been vindicated -- instead, I think the ultimate outcome of the housing market, particularly in Houston, very much remains to be seen. Even more has been thrown into the immediate mix, including the increased (!) volatility in oil-producing nations from even just 3 years ago, to the increased volatility of refinery capacity (when is hurricane season over!?). At any rate, there were some things quite structural in nature that were visible three years ago that are hot topics today. So not everything should come to us as a surprise, and for many besides myself I know it doesn't. ;-)

From November 2004:

Usually I don't like to speak on issues that are already well-covered, but the economic position of the U.S. right now is a topic that cannot be spoken of enough. With real estate and talk of currency troubles (aka: interest rate watch), we are watching like hawks these issues. Builders all around many metro suburbs are speculating with relatively cheap money, and banks are loading their balance sheets with really shaky things like "100% loans" (like an ARM with a balloon payment/refi instead of an adjustment). It looks scary. Moreover, it can happen like dominoes -- one big entity makes a move, and everyone (foreign financiers of U.S. debt) starts second guessing.

If only this stuff didn't matter. Again, there are many more factors now with which to analyze the situation than there were back in 2004, and there is plenty of reason to be hopeful, particularly in the strong Houston market area and economic sector. Locally here in N Houston Metro we have seen no notable decline in demand and continue to describe the specific Houston area as relatively balanced in supply and demand, as has been the case historically for many years.

[Update 11/24/2008: One year later, demand in the Houston area has definitely softened, with overall sales volume year-over-year in excess of 20%. The silver lining is that prices are holding relatively stable for now. But then we never had the pricing bubble that other areas of the country experienced.]

Why Do Bad Things Happen...

In real estate, people sell their homes for many reasons, the most generalized category of which could be simply "life changes." Whether a family is being transferred or empty-nesters are looking to "downsize", it's life's big stations or events that often induce the change.

All too often, however, the life change is something painful. A divorce, a death, a catastrophic illness... any number of ways that life can truly surprise and shock.

It's an age-old question, but one that we confront in our business time and time again: why do bad things happen to good people?

On many days, I am likely to answer simply, "I don't know. But I bet they happen as often as much as good things happen to good people, or 'nothing' happens to everyone, or good things happen to good people, or -- as much as we think we see it too often -- good things happen to bad people." And yet that answer always feels like it falls short. And it does.

Some people approach the question by going cosmic. Perhaps there's some kind of karmic cycles playing out in and around us. Maybe it's of the social sciences domain, and we all invite the kinds of events around us by how we all live and work together as part of the grand social contract.

Once again, to all these ideas and more, I can still only answer with that great cosmic thud, "I don't know."

But I do know what I see every day. It is one of the more interesting and compelling -- and sometimes very difficult -- lenses through which we get to view the world as real estate brokers: life changes. We see, because we often have to, behind the social veil that gives most of us privacy over our most painful episodes in life.

Nobody really expects their real estate broker to be someone who can say credibly, "You are not alone." And I can't figure out how to say that in such a way that is helpful and doesn't perhaps imply a demeaning of someone's uniquely painful circumstance. So sometimes we as brokers are best left just to listen to what someone wants to tell us and respond to them and their unique circumstance the best we can, because every person's circumstance is unique in several ways.

People might not expect their real estate brokers to be credible on the point of knowing when someone's painful life circumstance is shared by others, whether someone is truly "not alone." Saying so to someone in the moment may sound like hollow or synthetic sympathy. But in truth, as real estate brokers, whether we say it or not, we really are in a position to know.

What If Houston NEEDED to Evacuate 4 Million?

Where the hell has all the "War on Terror" money gone in the past 4 years?

Houston traffic, in anticipation of Hurricane Rita and made all-the-more anxious by recent coverage of Hurricane Katrina -- is at a deadly stand-still. The mayor of Houston perhaps said it best this morning when he said that the highway parking lots would be "death traps" if Rita were a direct hit.

How the hell can this happen over 4 years after 9/11? With all the talk of terrorism against chemical plants or potential dirty bombers, how can emergency planners and politicians not be prepared for a mass evacuation of an entire city?

It seems that money could have been well spent on automatic traffic flow systems that would allow planners to reverse traffic flows with a virtual throw of the switch. Gates could swing entrances shut and open access to contraflow lanes. Instead, it took over 12 hours for a request to be made and then fulfilled, and even then, hapless planners and politicians worried aloud about just "shifting traffic north" unless their eventual exits and stays upstate were measured and planned.

This, after four years since 9/11.

Inexcusable at all levels. Government in the U.S. is broken. Who will fix it and when? Like Houston, the country is simply out of time.