Valuation411

Magic Number Could Be -14%

2008-02-15T14:44:00.004-06:00

The Wall Street Journal reported yesterday on two indexes that can show conflicting data on the direction of home prices. These two indexes were the OFHEO index and the Case-Shiller (C-S) Index.

Below I have presented a graph of the C-S index for the Chicago market since January 1991. The index has increased from 80 at the end of 1994 to its present level of roughly 162. The annualized rate of change of this trendline is slightly above 5% per year.

Exhibit 1:

Common wisdom in this area holds that the typical rate of appreciation (prior to 2000) is about 5% annually. The trendline tracks closely with this generally accepted rate of appreciation.

Over the prior 3 years, the index has been above the trendline. It has taken about three years for the C-S index to reverse and come back to the trendline level. To fully recover and get back to equilibrium, it may take another three years below the line.

In order to estimate the amount of the required correction in prices, I have analyzed the Year-over-Year (YOY) rate of change in the C-S index.

Exhibit 2:

During the high-flying years of 2000-2006, the YOY change in prices was about 8% annually. But prior to 2000, prices were averaging about a 3% YOY change. Over the same time period, the annual change in CPI was averaging about 2.5%, so the change in home prices was roughly 0.5% above CPI.

If the market had continued at that same rate of change (0.5% over CPI) from 2000 – 2006, the YOY change in home prices would have been approximately 3.25%. Annual CPI changes from 2000 – 2008 averaged about 2.75%. In January 2000, the C-S index trendline was roughly at 110 (See Exhibit 1). If the index increased by a compounded rate of 3.25% over the next 8 years, it would have been at 142 by January 2008. As of November 2007, the C-S index was at 161.61 or about 14% higher.

A recent article in Business Week described real estate values may need a 25% drop for the housing market to stabilize. The Chicago market has been less volatile and more stable than many other markets in the Nation.

If the Chicago market needs a 14% decline to stabilize, that obviously won’t happen in a single year. Sellers in this market have been quite reluctant to drop prices in order to sell. Most likely, sellers will remain firm and the correction will just require time to reach equilibrium. The typical a long term trend of YOY home price changes is from 3-5%. In order to burn-off the excess value in this market, it will take about 3-4 years for the Chicago market, without further declines in prices. Further price drops will shorten this recovery time. The latest figures from Case-Shiller showed a YOY change of -4.0%. At a -4.0% rate, full recovery may occur in about 2 years.

Elgin Market Conditions

2007-11-20T14:07:00.000-06:00

The following chart shows quarterly real estate transactions for the Elgin market over the past five years.

Like the national real estate market, transactions were steadily increasing from 2002 to the end of 2005, hitting a peak near the first quarter of 2006. Since early 2006, sales have steadily declined from a peak of approximately 800 transactions per quarter to current levels of approximately 450 transactions per quarter. The decline in Sale Volume has been approximately 45%. The sales volume has held steady through most of 2007 which may indicate signs that the market is stabilizing.

Although overall number of transactions has declined significantly over the same time period, the median price level has remained surprisingly stable over this period. Median sales prices in Elgin, as shown in the chart below, have generally fluctuated around $250,000 over the last year and a half.

Sub-Prime hits Chicago hardest

2007-09-20T10:43:00.002-05:00

The Chicago Reporter studied data released by the Federal Financial Institutions Examination Council and found that the Chicago metro area ranked highest in the country in total high-cost loans in 2006. “High-cost" loans are first-lien loans with interest rates at least three percentage points above the U.S. Treasury standard. Some of the communities hit the hardest are south and west side areas, such as Roseland, Austin, and Dolton. Especially vunerable is the south side community of West Englewood where 75% of loans were high-cost loans.

Link to article...

http://www.chicagoreporter.com/2007/9-2007/mortgage/mortgage.htm

OpenOffice

2007-09-04T19:20:00.000-05:00

If your looking for a good alternative to Microsoft Office, try Sun's OpenOffice. This open-source project is a free multiplatform office suite that is compatible with MSoffice. My initial experience with this product was favorable. The spreadsheet was easy to format and sorting a column was quick with a button along the top menu. Graphing was a snap; however, I was not able to plot the linear equation. The word processor has some nice whistles and bells such as automatic word completion and a PDF generator. I would highly recommend this product to anyone that needs a basic word processor and spreadsheet application. It is dramatically superior to google docs, especially the spreadsheet feature.

Appraising Rated in Top 10

2007-05-22T16:04:00.000-05:00

Money.com recently rated real estate appraising in the top 10 best jobs. See story below...

Survey Looks at American Jobs

Divorce Appraisal Clipboard

2007-04-10T16:33:00.000-05:00

Recently, I was doing some research on the US Patent office website and ran across this little Gizmo -- the Bullet-proof Clipboard with built-in Pistol. As far as I know, this product never made it to market, but I bet that there are more than a few appraisers who felt like they could have used one of these on an inspection or two. One particular inspection that I did for a Divorce comes to mind. Both the husband and wife insisted on being present during the inspection. Needless to say, things got a little heated. Fortunately, no favorite china or coveted high school trophies were launched across the room, but there was no shortage of tension in the air. The nicest feature of this clipboard is that you can block bullets with it while you run for cover.

For the full description... Link to the US Patent Office

Thinking outside the Grid

2007-04-06T15:19:00.000-05:00

Appraising is not as easy as finding three comps that look like the subject, making several “rule-of-thumb” adjustments, waving the magic clipboard and saying Whala! Miraculously, the correct value does not just appears before your eyes. The appraisal form is not a magical tool that gives you the right value. Actually, the adjustment process can deceive you into thinking you have found the right value, especially if you start your analysis with the wrong comps.

The job of the residential appraiser, which has become overly focused on “filling out of the form” has caused many appraisers to adopt a form-driven approach to determining value. This is concerning to me because it is limiting the appraiser’s ability to think like the typical buyer in the market. The appraiser’s thought process is becoming too far removed from actual market participant’s. I have never seen a buyer in the market “gridding” comps before making an offer. Why should the appraiser need to “grid” comps to determine roughly what the subject is worth?

Appraisers should refrain from jumping into the analysis section of the report (gridding comparables) prior to having a good “ballpark” ideal of the subject’s value. If an appraiser does not have a “rough” ideal of the subject’s value, then he/she should not be gridding comps or making final decisions on the comparables to include in the report. Residential appraisers can sometimes fall into the trap of choosing and analyzing comparables based on solely Underwriting guidelines. This approach to the appraisal process can result in completely erroneous value conclusions.

Often, the primary cause for an incorrect value conclusion is not realizing the impact of location, which we all know has a major influence on value. Perhaps this is overlooked (especially by newer, less experienced appraisers) because location is somewhat more elusive than a factor like style, age, or bedroom count. The later are easily identifiable from the data. Merely choosing comps that “look” like the subject without adequate consideration of the subject’s location could leave the appraiser completely blindsided. It is quite dangerous to make comparable selections based mainly on overall style similarity without adequate consideration of the subject’s location.

Analysis of the wrong comps with “rule-of-thumb” adjustments and failing to recognize and account for location differences will cause the appraiser to conclude the WRONG value. Below are some steps to avoid this mistake…

1) You should develop a ballpark ideal of the subject’s value using a qualitative approach before employing a quantitative analysis (gridding comps).

2) Start your search for data with a broad range of criteria and then narrow the data down… like you’re zeroing in on the value.

3) Be cognizant of the potential high and low value for the subject as you work towards the middle of the range.

4) Look at all activity (Sales, Listings, Expired) in the subject’s immediate vicinity (i.e. block or two). Often, active and expired listings will help you establish an upper end of the feasible range.

5) Find several sales, not just 3, that represent the likely range of value for the subject and array this data from low to high. Placing the subject within this array will help you get a better understanding of how the subject relates to both inferior and superior properties in the market. Qualitatively consider comps on the basis of either overall inferior or overall superior. If you can’t determine either because of equal offsets, then it is probably overall “equal”.

6) Determine a narrow value range for the subject property based on this qualitative analysis. At this point in the process, you should have a fairly good “ballpark” ideal of the subject’s value.

Gridding comps should be thought of as more like a fine tuning of the data through detailed analysis. The presentation of comparables in the appraisal report grid is a formal, analytical, presentation of the subject value… not the primary tool for determining the subject’s value. These tips may aid an appraiser in breaking out of the mental block caused by a form-driven approach and allow the appraiser to think outside the grid.

Year End 2006 Prices

2007-01-26T13:15:00.000-06:00

The following graph shows the median listing and selling prices of homes in the Six County area of Chicagoland over the last 2 years.

In spite of increasing supply and slower marketing times, the median price has increased nearly $30,000 over the last 2 years from $240,000 to $270,000. The peak in median price in the summer of 2006 was approximately 3.5% higher than the peak in 2005. In spite of rising inventories, the Chicagoland market is healthy. There does not appear to be any reason for Sellers to panic and slash listing prices. However, Sellers should prepare for longer marketing time to sell their home and unpleasant negotiations.

Year End 2006 Inventory

2007-01-26T13:07:00.000-06:00

The 6 County area surrounding Chicago (Cook, Lake, McHenry, Kane, DuPage, Will) ended 2006 with inventory exceeding 11 months of supply. The steady increase over the past 6 months is typical of the seasonal nature of Real Estate with more homes selling in the summer months and fewer in the winter months. If this trend follows a similar pattern as prior years, the current Inventory in the market has likely reached a peak and should decline as we move into the spring market of 2007.

The Average Days on Market followed a similar pattern and reached a high of 80 days by the end of 2006. This is roughly a 30 day increase in the average time to sell a home when compared with the summer of 2006. The time to sell a home has doubled since the summer of 2005. The bad news for Sellers is that our market is clearly a “Buyers Market". The good news is we can expect some modest improvement in the market as we approach the spring of 2007. I expect the level of Inventory in the market to show improvement over the next several months reaching a low of 7 months of Supply by the summer of 2007.

Inventory of 7 to 11 months is indicative of a “Buyers” market. Although this would normally mean prices should be dropping, I doubt most sellers are going to slash listings prices. Most likely, prices will remain stable over the next several months.

Lake Zurich named as a Top Suburb

2006-12-23T12:44:00.000-06:00

Business Week named Lake Zurich as one of the top 25 Best and Affordable suburban places to live in the U.S.

Read Article....

Listing Comments have Meaning

2006-12-18T09:59:00.000-06:00

Recent study describes how different words used in the MLS listing comments may affect selling price and marketing time.

House that is 'beautiful' sounds better.

Also, a University study concludes that words like GOLF, LAKE, and UPDATED may lead to higher sales prices and the words PAINT, NEW CARPET, and ROOF WORK are assocated with lower selling prices. Surprisingly, the words "good location" was actually associated with lower sales prices. In spite of the saying that the three most important factors in real estate are "location, location, location", buyers may think the agent is "puffing" if the word "location" is included in the listing comments.

Link to Article....

Chicago Area Foreclosures

2006-12-15T16:11:00.000-06:00

Article provides a good summary of Foreclosures in the Chicago Market.

Read Article...

YouTube Real Estate

2006-12-14T11:23:00.000-06:00

Some innovative Realtors in California have started using the Internet Site, YouTube, to show video tours of listings.

Creative Realtors using Youtube

Since its free, I expect many more to follow in their footsteps. Skeptics feels that its not professional and it only reaches a small segment of the buyers that are tech-savy. Based on the recent survey that shows an increasing number of Buyers using the Internet to find a home, this doesn't seem like a bad ideal.

Below are a few samples I found on Youtube...

Vero Beach
Vero Beach $2.5 Million
New Jersey

Internet Usage Up

2006-12-14T11:08:00.000-06:00

Study shows an increasing number of Real Estate buyers are using the Internet to shop for a home.

Read Article...

Silver Lining

2006-12-04T22:27:00.000-06:00

With so much bad news in the media and countless bloggers churning out ever increasing housing bubble stories, I thought I would highlight some of the recent positive news.

• The total active listings in the Northern Illinois Regional MLS have dropped to 44,140, compared to 47,559 in October. The decrease in total listings may be a sign of stabilizing in the local market.

• The current 30 year fixed mortgage rate has dropped to 5.875% from previous levels of 6.25 – 6.5%.

National news sources find “Silver Linings” in the recent housing data…

Market Watch

• Sales of existing homes rose 0.5% in October, the first increase since February.

• Existing home sales appear to be stabilizing, market fundamentals are improving.

Real Estate Journal

• The worst of the housing bust is over…but economists still predict that the average selling price of a house will fall next year.

• We’re nearing the end of the slowdown for most markets

• We’re starting to see inventories topping out and possibly declining.

Money.com

• Market firming

• Housing market stabilizing

NAR analysts expect the “buyer’s market” to continue in the months ahead. With inventories starting to decline, sellers will be less willing to negotiate. Market condition may begin to balance in many areas in the early spring. Although prices may continue to drop in the early part of next year, prices may begin to move upward again by the end of next year in many parts of country.

NIMLS Sales Volume Oct 2006

2006-11-28T15:46:00.000-06:00

Eppraisal - Younger, Wiser Mouse?

2006-11-05T11:55:00.000-06:00

When I was a kid and my older brother would get in trouble, I gained some valuable insight on how to avoid the same mistake. “Thanks Bro!”. I think the wise words of Steven Wright sums this up best, “The early bird gets the worm, but the second mouse gets the cheese.”

This might apply to the recently created site called Eppraisal. The Eppraisal site is basically a Zillow copycat. Much of the content seems as if it was lifted directly from Zillow. Can you say…”Déjà vu”. But there are a couple of differences that suggest that Eppraisal has learned lessons from the experiences of Zillow before them.

Lesson 1: Less emphasis on value as a single number. Eppraisal does a little better job of communicating value as a range rather than a specific number. The end result of this fuzziness better leads the user to the realization that they will need the assistance of a real estate professional to interpret the data.

Lesson 2: Encouraging the user to interact with a real estate professional. It’s hard to dispute the notion that the ultimate goal of Zillow it to disrupt the real estate market. The basic business model of the Zillow site is the disintermediation of the real estate transaction – in the much the same fashion that its creators cut the travel agent out of the middle with Expedia.

Eppraisal is a portal for connecting buyers and seller with real estate agents. It is becoming increasing obvious in this discussion, that a person should be consulting with a real estate professional who can help interpret the market. Perhaps there may be some ironic conclusion to the Zillow saga and rather than Zillow proving the Realtor is not necessary, it will prove just the opposite. That because of the complexities, variations and inefficiencies in the real estate market, you should not cut the professional out of your decision making process.

I'm no William Tell, but...

2006-11-02T03:17:00.000-06:00

Zillow provides data about its accuracy on the website. Think of accuracy as an Archer trying to hit a target. In this case, a bullseye is hit when the Zestimate is the same as the Sales Price. The stats that Zillow provides is intended to inform the user how good they are at hitting the bullseye. But does this really give the consumer good information about Zillow’s accuracy?

The table below is Zillow’s accuracy report for the Chicago area. Now I’m not a Statistician, but since I stayed at a Holiday Inn Express last night, I’m going to try to interpret the stats in this table.

The column on the right is basically the same as drawing a ring around the bullseye and determining how many times Zestimate was within that 10% ring. In Cook County, the Zestimate was within that ring 58% of the time and a little worse in Tazewell at only 44%. That’s not bad if your Zestimate was one of the fortunate ones inside the ring. But what if your Zestimate was one of the less fortunate that hit the target outside the 10% ring or what if you happen to live in Tazewell (I’m not sure where that is, but it sounds far). Wouldn’t you want to know, by how much did Zilllow miss the bullseye. Does it miss just a little, or does it miss badly.

The casual user of Zillow might think that the 1st column provides that. This is the % error. But when you look at the heading it says “Median”. This is rather odd. The use of median as a measure of central tendency is normally for data that is an ordinal variable (follows a natural order).

For example, the average housing price is reported as a median. After you line up the data in order from lowest to highest, the mid point is found. This is usually a good measure of central tendency for housing price since some extremely expensive homes in a data set could skew the average. The expensive houses would have a greater impact (relative to the least expensive houses) due to the magnitude of the number. The median gives a more accurate and realistic value of the prices faced by most people.

A % Error figure is not an ordinal data set. For this reason, it would be better to use a “mean” as the measure of central tendency. Consider the following example….

Let’s assume for the moment that I recently decided to take up Archery and the following are the results of me launching an arrow at a target in my backyard. The percent figure indicates by how much I missed hitting the bullseye. We can call this “% Error”.

1%
2%
3%
4%
5%
8.1%
50%
60%
70%
80%
90%

The median % error for my shots was 8.1%. But the mean was a dismal 34%. This is a significant difference in the measurement of my accuracy. I got really close to the bullseye the first five shots (within 5%) but then the last five shots, I missed badly. In fact, the last shot was very close to missing the target altogether and hitting the window of the neighbor’s house! At that point, I decided I should put the bow down and go back inside the house before I hurt someone.

If you were my neighbor and asked me about my newfound Archery hobby and I told you, “Don’t worry, I am accurate to within 8.1% of the bullseye”, would that be fair to you or your kid’s running around in the backyard? As my neighbor, would you feel like you should have been told about the couple of shots that were near the edge of the target?

Doesn’t the consumer deserve to know how often Zillow might badly miss the bullseye? Does the use of median really give the consumer this information? Is there some reason why ZIllow is not reporting the Mean?

Zillow would probably say that if it provided a mean, it would be misleading because the outliers would skew the results. Zillow would also probably say that when there is an outlier, it was not because the model is flawed, but because they were given bad information from the public record. In other words, they were given a “bad arrow”.

To apply this logic to my Archery hobby, I could justify not telling my neighbor about the bad shots by saying to myself, it was those lousy arrows I bought at the store down the street, “Bob’s Discount Arrows and Grenades”. The arrows I used for my 1st five shots were bought at “Dick’s Sporting Goods” and were very accurate. But doesn’t my neighbor deserve to know whether I am buying my arrows at Bob’s (they are cheaper than the ones at Dick’s) so he can hide his kids in the house when I emerge from my backdoor with my Bow & Arrow set in hand!

Suppose my wife get the credit card bill and flips out about the money I am spending at Dicks (on the “good” arrows). I could I tell her, “Honey, I am really good. On average, I’m within 8.1% of the bullseye and getting better when I buy the good arrows from Dick’s. In fact, I’m getting so good, I think I got a shot at the Olympic Archery Team”.

Now, if I want to mislead my wife and convince her that we should be taking a 2nd mortgage on the house to pay for more expensive arrows from Dick’s, that’s my business. But I think my neighbor deserves to know about my bad shots. If Zillow wants to internally talk about its median error margin, that is perfectly acceptable. But is this fair to the consumer?

Ask yourself, who benefits from the providing of a median error vs. providing a mean? If your Zestimate is one of the 42% (or 56% in Tazewell) that hit outside the 10% ring, don’t you want to know just how bad that could be? Don’t you want to know if you should be getting your kids out of the backyard!

Is Zillow being Honest?

2006-10-31T08:23:00.000-06:00

The recent FTC complaint accuses Zillow of being deceptive. Below are excerpts from the Zillow site. It does seems that Zillow is talking out of both sides of it's proverbial mouth.

Double Speak on the reliability of the Zestimate

“Zillow does not offer the Zestimate as the basis of any specific real-estate-related financial transaction”

vs.

“You can use it in negotiating”

I don’t know about you, but the negotiation of a sale of my house is a pretty specific real estate related financial transaction!

Adjustments to the Comparables

“At Zillow, we make these adjustments (to comparables) behind the scenes, when we calculate the Zestimate.”

vs.

“It is not an appraisal”

Adjusting comparables is an important part of the appraiser’s methodology in analyzing the data leading to the conclusion of value. When Zillow claims that they are using the same analytical process of an appraiser, aren’t they performing an appraisal, in spite of what they want to call it? As we like to say… you can’t have it both ways. If you are not providing an appraisal, then don’t claim to use appraisal techniques. If you are providing an appraisal and you should be required to abide by USPAP.

Price per square foot

“Price per square foot is a time-honored method of real estate valuation."

Zillow is just plain confused here. Price per square foot is a “unit of measure” NOT a “method”. However, we appreciation your recognition that appraising is “time-honored”.

Winter Market Getting Colder

2006-10-26T00:32:00.000-05:00

Based on closing projections for the month of October, the inventory for existing detached single family homes in the Northern Illinois Region may exceed 8 months. The current number of closings over the prior 30 days was 5,638. Based on this level of sales activity the current total listings of 47,329 will require 8.4 months to sell. This is an increase from the prior 3 months, which showed inventory levels of 7 - 7.5 months. It does not appear likely that the market will shift gears and improve into the winter months of November, December, and January. These months traditionally are the slowest months of the yearly real estate cycle. It is quite possible that the level of sales over the next three months will decline to 4,500 - 5,000 homes. This would likely push the level of unsold inventory to 10 months by January.

Bad News for Bear Fans

2006-10-17T21:29:00.000-05:00

Chicago football fans had reason to celebrate after an amazing come-from-behind victory last night by our beloved Bears. But the bad news today is the real estate market is going into the 4th Quarter down points.

Based on the closed sales figures for September which showed a significant drop in sales, the current Inventory in the Northern Illinois Region is still over 7 months of supply (a balanced market is 6 months). The most disappointing news is the level of sales volume for September was down significantly from the previous month of August. If this trend continues, inventories will continue to increase and the market will clearly begin to favor the Buyer. It doesn't look like this market is going to score any defensive touchdowns.

Google Docs has a long way to go

2006-10-16T17:02:00.000-05:00

Google just added a new feature called Docs & Spreadsheet. Our initial hope for this feature was that it could be a great way for us to share documents between Associate and Supervisory appraisers. We also thought it might solve a document portability problem for the appraiser between the office and home.

After some use of the product today, we were quite disappointed. Both the word processing and spreadsheet features were very basic. It was difficult to format paragraphs and tabs. When we attempted to cut and paste a spreadsheet into our document, all formatting was lost. Without a "paste special" feature, it was impossible to past a spreadsheet into the Document.

Our optimism that this product would be a great way for appraisers to collabrorate on projects vanished quickly. We like the ideal, but Google has a long way to go with this feature before it will be of any practical use to the appraiser for report development purposes.

What's driving this Market?

2006-10-13T12:13:00.000-05:00

I recently posted a study about City of Chicago housing values and how mortgage financing products affect the Median Housing Price. This study is not predictive of where housing values are going. Mortgage rates and products don’t create Value in the market. Buyers decide Value. Buyers are the “driver” of real estate prices and will determine where we will go in the future. My study is really an explaination of how mortgages were the vehicle that moved us.

The mortgage analysis I provided is ex post facto. It is an explanation of how we got there (i.e. what kind of car did we drive). Did we drive a conservative, fuel-efficient economy car or an expensive European luxury car that’s going to cost a fortune to fix when it breaks down (i.e. rate adjustments on ARM’s).

My analysis is a look into the mortgage cost factors that affect the Cap Rate in the market. It is an attempt to explain the past. Income Capitalization is nearly always an inferred analysis. The data we use is historical and we infer from that data where we are going in the future. We can incorporate some fundamental analysis into our estimate to get a better picture of the future, but we are still trying to hit a moving target. The Cap Rate is always changing. Some fundamental analysis included in my study was an estimate of Median Income for 2006 based on CPI growth. More time is needed to get the hard data in.

My analysis is not a predictive model since we don’t have a crystal ball regarding future choices the Borrower will make on mortgage products. We can assume or infer that the mix of mortgage products will be similar to the past, but that is not normally the case since the market is dynamic (always changing).

Let me Sleep on it!

2006-10-13T10:17:00.000-05:00

One of my favorite parts of the movie Jerry Maguire is the morning after he distributes his Mission Statement to the whole organization. He wakes up thinking it was just a crazy dream; but to his horror, he arrives at work to find out that he really did pull the trigger on the document. I got to believe that Bloggers can relate to that scene at times. Now I'm not implying that I feel like Jerry Maguire this morning, but sometimes some sleep can help bring clarity to your thoughts that you can't find at 1:30am.

The mind is amazing and I don't think it stops working in your sleep (I'm sure there's some scientific evidence to back that up somewhere). I wonder how many appraisers can relate to the experience of being stumped on an appraisal problem, but miraculously finding answers and solutions to that problem the next morning.

Never underestimate the Power of..."I'll have to sleep on it"!

Did Housing miss the Median?

2006-10-13T00:36:00.000-05:00

A recent post on thehousingbubbleblog.com showed how much confusion there is in the general public about how a Median Income earner can afford a Median Priced Home.

When Did Median Incomes Afford Median Prices?

In an attempt to clear up some confusion, I am posting the following link to a working paper I recently completed on this topic. This link is to a PDF file.

Capitalized Housing Cost Approach to Median Housing Value

This Working Paper is an analysis of Median Housing Values in the City of Chicago over the past 15 year. This paper provides a analytical basis for assessing the current median housing level and likely price correction.