With personal homes being the largest asset for most Americans, everyone wants to know about “the market” and where prices are going. Thus brokers, agents, pundits and the media want to provide a clear and definitive ‘answer’, and that ‘answer’ always relies on statistics. That 'answer' at the same time is pretty much always yes ~ now is a good time to buy or sell.
I've never heard an industry professional publicly say it's a bad time to buy or sell. Why? None of us get paid when the consumer doesn't conduct a transaction ~ buy or sell. So, the general public needs to know the way the real estate industry is traditionally set up does not always have the consumers best interest in mind. If no one gets paid without a transaction closing then there is a large probability some "professional" in the process will do what is in their best self-interest and not the consumers. Of course, there are a lot of ethical, moral and honest real estate professionals; this is simply an alert that the system is stacked against the consumer, so caveat emptor ~ buyer and seller beware.
The statement “the numbers don’t lie” is correct, the problem is that if I do not understand what those numbers truly mean, I effectively lie and con myself. I am then also open to those with an “interest” in “the market” selecting statistics which support what they want me to believe. Based on NAR statistics, only 30% of real estate agents have college degrees, which is not a slight. I know many incompetent people with college degrees. Yet, no college and no math or business degree likely means an agent never took high level math or statistics classes. So, they believe the propaganda pushed by the industry and government without taking an objective look at those statistics, how they were compiled or if they match the reality on the ground.
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The Number 1 factor in real estate is always “Location, Location, Location”. So, any and all national statistics are totally irrelevant for you and your individual home. The most commonly cited national statistic is the Case-Shiller Home Price Index, which only takes into account the 20 largest Metropolitan Areas in the United States. So, depending on where you live, your area might not even be counted. I am in St Louis, MO and we are not included in the index.
The Case-Shiller indices are “calculated monthly using a three-month moving average and published with a two month lag.” The first time I read that I had no clue what it meant. So, I looked up the methodology for Case-Shiller to see how it is calculated and it is a 41 page PDF document, which like you – I am also not going to read. Let’s just stick with “Average” then, which is simple to understand. The media is constantly saying the average home price is rising. While that can be a true statement, it can also be misleading.
Here is a simple example which is indicative of a current market trend – Less foreclosure sales and more retail sales:
Last year say we had these 5 homes sales mixed with 3 retail and 2 foreclosures:
’10, 8, 6, 2, 1′. The Average = 5.4
This year say we have 5 sales of ‘similar’ homes but one less foreclosure:
’10, 8, 6, 6, 1′ The Average = 6.2
By simply replacing one foreclosure sale with one lower-end retail sale we have a statistical 14.8% “increase in prices” year-over-year. Wow, the market is “on fire”, right? No, not really, as none of the other retail sale prices increased no actual price appreciation was gained by the other sellers. The retail market sales prices did not increase, there are just less low priced foreclosures being sold.
A second example, and a big one – anytime you see a statistic referencing the Median Home Value, run fast. The Median is just the number in the middle of a set numbers. I struggle to see any value in knowing the Median and wonder why it is commonly used in real estate statistics. Not really, it's used to create a picture of something which does not actually exist (it's like a magician using slight of hand basically.)
Last year say we had the same 5 home sales, with 3 retail sales and 2 foreclosures:
’10, 8, 6, 2, 1′. The Average = 5.4 and The Median = 6 … Wooooo, by simply changing the Statistic used, we got a 11.1% “increase in home prices” immediately.
Say the retail market was actually getting worse. There were still 2 foreclosures AND the other retail prices went down:
‘8, 6, 6, 2, 1′. The Median = 6…. Well, at least it’s not “getting worse”, right? Of course not, prices on retail sales obviously lowered.
OK, so why did I say statistics are only 99% irrelevant and not 100%? Well, most people believe statistics and will not look underneath the hood at the actual data set used, agents included. If the resulting trend of whatever the statistic is is "good" then the industry runs with it like it's the holy grail. If the result is "bad" pick a different statistic that looks "good" or just ignore the "bad" statistic. Saying good, good, good changes the psychology of the consumer and industry professionals and positive things can result from completely made up statistics.
So, there is a large factor at play in Market Psychology and Belief. If most people believe a market is improving and prices are going up, then prices usually go up. Vice Versa, if most people lose faith and believe prices will go down, they usually go down. It’s that understanding of market psychology and our own psychology which can help make a successful contrarian investor.
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There are many misperceptions about personal residences and housing in general which need to be dispelled, and I will tackle the largest one – Our homes are our best personal investment. From a pure dollar basis, a home is normally a persons' most expensive asset and also normally their largest liability in the form of a mortgage.
I criticized the relevance of the Case-Shiller index last week and to be fair, Robert Shiller is also one of the loudest critics of Real Estate and the housing sector in general. There is one set of data they produced which I routinely refer too when I hear someone speak of their home as “an investment”, which they believe is or will perform well.
Beginning in the year 1890 through 2010, they charted the value of homes ADJUSTED FOR INFLATION. Over that 120 year period a homeowner would have earned a 0.33% yearly return. Yeah, that is 0.33%, not 33% or even 3%. Here is the chart:Steven Barry added in the red lines showing 2011 into 2012. Based on 2011, the return is a measly 0.08% per year.
To simplify, if someone had paid $100,000 for a house in 1890 they would have sold it in 2011 dollars for $110,000. If that same person deposited $100,000 into a savings account earning 0.5% in 1890, with the power of compound interest, they would have a balance of $183,763 in 2011.
To kick us all harder, this is solely based on the price of the homes and it does not include cash expenditures such as insurance, taxes, maintenance, major repairs or updating. When those expenses are added in it quickly makes “owning” a home a negative investment.
So, what are people thinking? Well, many people look at nominal dollars and forget inflation, which is common, especially over longer time periods. Then we like to forget all the blood, sweat, tears and money we have poured into our homes year over the year. I do not know anyone who has recorded every dollar they have spent maintaining and updating their home. Denial is sometimes a much happier plane of existence.
The other large problem, when looking at the chart above is, when are we going to sell? If we sold in 2006 or 2007, we made a killing. If we bought in 2006 or 2007, we have been killed. If someone tells you they know when to buy or sell ask them for their crystal ball and steal it, go to Vegas and play Roulette.
For fun you can ride the Home Price Roller-coaster experience, thanks to Jeremy McMillan.
If you are a current homeowner, than all of this may be hitting very close to home, no pun intended. If you are interested in buying your first home, you may be crying in a corner thinking your dream is dead. Fear not… because a home is not an investment; so stop thinking, worrying, gambling, speculating and trying to predict a market which is unpredictable. Take a deep breathe and go back to living, you have no control over the economy or housing market, just let it go.
I’m reminded of the saying “A Home is Where the Heart Is”. At it’s basest, a home is simply a place to seek shelter and store belongings. At it’s most magical, it is a place where families begin and grow, children are raised, memories created, friends enjoy each other, a place of safety and refuge along with many, many, many other potentially great experiences which have no dollar value, they are Priceless. If that is the “why” behind wanting to own a home, then you are on the correct path and when a Home is Priceless, the return on investment is Infinite.
If you believe you are going to make a great investment, history shows you will not, at least not without a big helping hand from Lady Luck. And in my opinion, Poker is more fun than fixing a leaking toilet, and at least they give out free drinks.
Next blog I’ll speak to the gamblers and explain why they normally will not make money investing in real estate, even though every infomercial on at 2am will make them a millionaire!
I answer and respond to all emails ~ douglashilbert@yahoo.com
For past "Letters to My Son" blogs go to ~ doughilbert.blogspot.com
For health and wellness blogs go to "Ask Hilbert" ~ askhilbert.blogspot.com
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