INTRODUCTION
What do you know about the concept of affordability? How do you account for it in your day-to-day appraising? Should you account for it? Does the concept of affordability even impact the typical first mortgage real estate appraisal?
AH, MEMORIES!
Remember the last time markets were this active, prices this hot, and housing supply this scarce? Yep! It was 2000 to 2007. And what happened? The market reset itself in 2008 (I was going to say it crashed, but I did not want to scare the newbies!). So, is there a lesson here for us today?
With obvious exceptions, many markets throughout the US are hot. It is common for a house to come on the market and, within five days, have received as many offers, all cash, with some of those above the listing price. As a result, you say, “Tim, so what?! This is common in my market!” And that’s the problem.
A simple affordability analysis shows there is a problem. Those with the US median household income, simply cannot afford to buy the median-priced house. Even with interest rates around 2.5%, there is not enough available cash. So, those households making the median household income can’t afford the debt service on a mortgage loan large enough to buy the median-priced house. Not if they want to pay their other bills, anyway.
So, what does this mean? Those price increase these auction-buying frenzies bring about will define the comparable sales 3-12 months from now. Appraisers will use these as comps. But if they sold via a bidding war, was that really the market at work? Or just the ravings of someone with more money than brains? And that’s scary because eventually these bidding wars will eventually end. This is because there is only so much money in the typical household’s budget. And when those wars end, is it reasonable and market-based to conclude those prices will continue at those stratospheric levels? As a result, will the market need to reset itself as it did in 2008?
SO, WHAT’S AN APPRAISER TO DO?
So, about the concept of affordability, what’s an appraiser to do? We have no choice but to recognize, and then factor into our value conclusions, what the market is doing as of the effective date of the appraisal. This is true even if what the market is doing makes no sense. Yet what we can also do is to make it clear to our clients that these bidding wars, and their attendant ever-increasing prices, are temporary. Overheated markets will eventually reset or, potentially, collapse. It is our responsibility to make those scenarios clear, too (although nobody likes to report bad news). That less-than-pleasant responsibility is part of being independent, impartial, and objective, don’t you think?
CONCLUSION AND CALL TO ACTION
This blog about the concept of affordability is purposefully short. There is so much more to say on this and the consequences of the market resetting itself. If I can ever be of help to you in these two areas, or in any area of real estate appraisal, or if you just need some one-on-one coaching or mentoring, please contact me at tim@theappraisersadvocate.com. It will be an honor to work with you!