Getting back to 2005 values
One thing I hear frequently when speaking with potential sellers is, "Oh, we will just wait until the market comes back and we will sell it then." They usually say this after we establish a range of value for their property. This is a common response from a seller who purchased in 2005 and is now upside down in their property.
So, how long will it take for this market to get back to 2005 values? No one knows. It depends on when prices stop dropping and at what rate we grow every year after bottoming out. Let's make some assumptions and see what happens:
The market will bottom out in 2008
There will be no appreciation in 2008
You purchased a home in 2005 for $500,000
Your home has dropped in value to $375,000 or 25%
Here is a snapshot of the excel file I used. So if the Sarasota real estate market grows on average 5% a year starting in 2009 it will take until 2014 to get back to 2005 home values. If we have an 8% growth rate it will take until 2012, with 10% it will be 2011 and with a 12% it will be in the middle of 2010.
What will be our growth rate? We can only make educated guesses. If you assume a 7% average annual appreciation rate you will get back to even sometime at the end of 2012. So should you sell now or wait it out 4 or 5 years? It depends on your situation. Remember, properties have carrying costs in property taxes, insurance, maintenance and headaches. Weigh those future costs versus the loss you would take on the property by selling it today to decide if you should hang on to it.
So, how long will it take for this market to get back to 2005 values? No one knows. It depends on when prices stop dropping and at what rate we grow every year after bottoming out. Let's make some assumptions and see what happens:
The market will bottom out in 2008
There will be no appreciation in 2008
You purchased a home in 2005 for $500,000
Your home has dropped in value to $375,000 or 25%
Here is a snapshot of the excel file I used. So if the Sarasota real estate market grows on average 5% a year starting in 2009 it will take until 2014 to get back to 2005 home values. If we have an 8% growth rate it will take until 2012, with 10% it will be 2011 and with a 12% it will be in the middle of 2010.
What will be our growth rate? We can only make educated guesses. If you assume a 7% average annual appreciation rate you will get back to even sometime at the end of 2012. So should you sell now or wait it out 4 or 5 years? It depends on your situation. Remember, properties have carrying costs in property taxes, insurance, maintenance and headaches. Weigh those future costs versus the loss you would take on the property by selling it today to decide if you should hang on to it.
Labels: Luxury Sarasota real estate, Sarasota real estate news
posted by Marc Rasmussen at
8:50 PM
20 Comments:
Marc,
Why did you pick a 25% drop in value? Is that what you have typically seen in single family homes of that price range?
Dave
That seems like a good round number. I have seen properties drop more than 25% and less than 25%. At the 2005 market high our median home price was $350,000. Now it is somewhere around $275,000. That is about 25%.
You can't paint the entire market with one broad stoke. There are exceptions to the averages.
Marc,
Far be it from me to be the final arbiter of real estate valuation calculations, but consider the following.
The market doesn't care what someone paid for a property in 2005 or '06. Most people who bought properties between early '05 into early '06 did so at inflated prices; when compared to the long term appreciation rate for real estate.
IMO, it's totally unrealistic to tell someone who bought in either 2005 or '06 that their property will appreciate at a 5%-8% rate from hereon for the next 3-5 years because they likely paid way too much.
Most people who are buying in today's market look at long term appreciation rates, and they're starting basis is not 2005.
If I were representing a potential seller, I would go back and look at the LONG TERM price transaction history of that property and of the particular neighborhood - calculate the annual rate of increase - (something that few people did when the market was red hot) and then take into consideration the comps to determine a fair price.
Todd wrote:
"The market doesn't care what someone paid for a property in 2005 or '06."
I agree.
"IMO, it's totally unrealistic to tell someone who bought in either 2005 or '06 that their property will appreciate at a 5%-8% rate from hereon for the next 3-5 years because they likely paid way too much."
When I was speaking about appreciation rates it was for the overall market. No just those folks who purchased in 2005. Once the market settles I don't think a 5-8% appreciation rate is unreasonable.
"Most people who are buying in today's market look at long term appreciation rates, and they're starting basis is not 2005."
True. If they are buying today their basis would be today.
"If I were representing a potential seller, I would go back and look at the LONG TERM price transaction history of that property and of the particular neighborhood - calculate the annual rate of increase - (something that few people did when the market was red hot) and then take into consideration the comps to determine a fair price."
It depends on many factors, mostly location. The best way to value a home is to compare against recently sold properties.
Todd said:
"Most people who are buying in today's market look at long term appreciation rates, and they're starting basis is not 2005."
Marc replied:
"True. If they are buying today their basis would be today."
I think you're missing what I'm trying to convey. If someone buys a house in today's market at a price which is above the long term appreciation rate for that house and for that neighborhood, then they are likely overpaying. And it would then follow that using today's price as a basis for your 5%-8% appreciation rate, as you suggest, is faulty.
[Of course, I'm assuming that the house mentioned is essentially the same type of house that it was when the appreciation rate calculation was started; notwithstanding normal repairs.]
I think it's much better for buyers of RE to consider long term rates of appreciation, not just use THEIR current purchase price as the basis. Based on that premise, those who overpaid for a house in the last 2 years can calculate that they're making 5%-8% per year annualized, when the reality is far different.
Marc said:
"The best way to value a home is to compare against recently sold properties."
This is a true salesman's pitch.
And it's exactly the kind of faulty advice that largely contributed to the illogical and unsustainable run up in RE prices here in SW FL over the last few years.
Todd wrote:
"And it's exactly the kind of faulty advice that largely contributed to the illogical and unsustainable run up in RE prices here in SW FL over the last few years."
Yea, I can see that going over well. "Mr. and Mrs. Seller, you have to ignore these 3 recent sold homes that are very similar to yours for around $500,000. Because, if we go back and look at the LONG TERM price transaction history of your particular neighborhood and calculate the annual rate of increase (Todd's advice) it tells us that your home should only be worth $425,000. Regardless, of what someone would be willing to pay for it."
Not only would I be misrepresenting my clients by doing this I would be out of business pretty quickly.
Marc said:
"Yea, I can see that going over well. "Mr. and Mrs. Seller you have to ignore these 3 recent sold homes that are very similar to yours for around $500,000. Because, if we go back and look at the LONG TERM price transaction history of your particular neighborhood and calculate the annual rate of increase (Todd's advice) it tells us that your home should only be worth $425,000. Regardless, of what someone would be willing to pay for it."
Marc, you nailed it! Well done !
If you are representing the SELLER, then using sales comps as the primary value of a property is a great sales pitch to any potential buyer.
If you're the BUYER (or an agent representing the buyer) then you should know that valuing a property primarily on recent sales comps without consideration of long term price appreciation could quite likely lead you to overpaying.
It all depends on what side of the fence you're on. You have made that abundantly clear ...
Todd wrote:
"If you are representing the SELLER, then using sales comps as the primary value of a property is a great sales pitch to any potential buyer."
It is not a sales pitch. That is how residential, non-income producing property is valued. Appraisers, banks and the rest of the real estate world uses this method of valuation.
Buyers use this formula as well or they simply won't buy. This is how buyers and sellers meet on common ground to achieve a sales price agreeable to both aprties.
If they think the market is out of whack one way or the other then they should sit on the sidelines and rent.
Marc said:
"It is not a sales pitch. That is how residential, non-income producing property is valued. Appraisers, banks and the rest of the real estate world uses this method of valuation."
Marc, I think we're finally getting to a point of understanding.
It has indeed been the choice of realtors and appraisers to use comps as the preferred method of evaluation of a property, and that works well in a HEALTHY, balanced, and uptrending market.
It does not work well in a market where prices skyrocket, inventory drops dramatically, and people largely buy in hope they can sell it at a higher price = '05-'06.
But in the runaway RE market like what we experienced in '05 and '06, that methodology of valuation did not work well for those who purchased at highly inflated prices. People who wanted to buy a home or invest in RE during those years would have been well served to look up long term appreciation rates for the house and neighborhood in which they were interested.
Many folks decided to agree with the notion of using sales comps as a primary indicator (possibly from their realtor's advice) and purchased house(s) at the apex of the buying frenzy, disregarding long term appreciation rates.
And now we have the debacle that is called "the housing bubble."
Now we're all dealing with the consequences.
This comment has been removed by the author.
Todd wrote:
"It has indeed been the choice of realtors and appraisers to use comps as the preferred method of evaluation of a property, and that works well in a HEALTHY, balanced, and uptrending market."
That method works in any market. That is the best way to value residential real estate. Plain and simple.
In a down trending market you find the most recent comparable sales and most likely price your property slightly below or in that range. In an uptrending market you find the 3 most recent comparable homes that have recently sold and price it slightly above or in that price range.
Market value is the estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arms-length transaction after proper marketing wherein the parties had each acted knowledgably, prudently, and without compulsion.
Willing buyers and willing sellers use recently sold similar homes as a basis for a reasonable sales price to agree upon. That is how real estate works.
Valuing a home based on an arbitrary historical return is like valuing Berkshire Hathaway against the historical returns of the S&P 500. Using your logic would indicate that Berkshire Hathway is overpriced and has been overpriced for many years.
Marc said:
"Valuing a home based on an arbitrary historical return is like valuing Berkshire Hathaway against the historical returns of the S&P 500. Using your logic would indicate that Berkshire Hathway is overpriced and has been overpriced for many years."
How is the long term rate of appreciation for a particular property or neighborhood arbitrary?
You can visit the Sarasota County government website and view the transaction history of a particular property or subdivision. Many of those prices go back to the late 1960s to early 1970s. Many of the prices listed are the actual prices when the house was originally built.
As the house is sold through the years you can calculate what the rate of appreciation has been, You can do this for the subdivision as well.
Because neighborhoods are unique, it's helpful to calculate these statistics for several houses in that particular subdivision to get a more accurate number. I fail to see how that is arbitrary?
Granted this may take some time, but any decent buyer's agent should have these numbers available for their client.
As for Berkshire Hathaway, the "A" shares sell for $132,210. The stock sell for roughly 15 times earnings. The S&P 500 currently has a PE ratio of around 18.
So while I don't have the jack to buy even one share of Berkshire, it's not too overpriced compared to the S&P 500 based on that one simple valuation metric.
If I was to compare Berkshire Hathaway to Google or Research In Motion (that makes the Blackberry), then that would be more of an arbitrary comparison because I would be comparing an older, more established company - like Berkshire - to that of a young, fast growing technology company, which tend to carry higher valuations because of their faster growth rates.
We can dance all day. Again:
Market value is the estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arms-length transaction after proper marketing wherein the parties had each acted knowledgably, prudently, and without compulsion.
A knowledgable buyer and seller use recently sold similar properties as a basis for their valuation. Plain and simple. Using recent sales as a basis for valuation shows today's market value. If a buyer wants to buy and a sellers wants to sell TODAY that is how they determine value. It has nothing to do with whether the market is overbought or oversold.
Todd wrote:
"As for Berkshire Hathaway, the "A" shares sell for $132,210. The stock sell for roughly 15 times earnings. The S&P 500 currently has a PE ratio of around 18."
You are using PE as a basis for your valuation not annual rates of appreciation. I don't think example really relates.
I can give you another reason why it is important to look at recent sold properties to determine TODAY'S value. Take Orchid Beach Club as an example. This is a newer condo building on the south end of Lido Key. There have been 7 sales this year in the building. Virtually all of the condos sold at a price higher than their 2005 closing prices when the building was completed. The closings were held in 2005 but the original prices were established in 2003 and 2004. The rest of the market has declined but these really have not. Why? Because there is a shortage of new condominiums on the beach. If you used your method of valuation all of the condominiums that sold this year should have done so at lower prices.
Marc said, RE: Berkshire vs. S&P 500
"You are using PE as a basis for your valuation not annual rates of appreciation."
That's because using a PE as a valuation IS indeed one of the ways you value publicly traded companies. You don't value companies based simply on their rate of appreciation. If you want to be a momentum trader, then sure, you follow prices and forget about valuations.
What we're talking about is how to properly place a valuation on a property and you're suggesting that using recent sales comps is the best way.
My counter point is that if you simply use comps without consideration of long term rates of appreciation, you can end up buying into a momentum game and pay exorbitant prices.
And that is exactly what happened in SW FL over the past few years.
Marc,
I thought you did an excellent job making an emotional topic more factual and discussion based. Good to know a good realtor like you to my south! - Cyndee Haydon
Thank you Cyndee. ;-)
Marc,
You probably feel like I'm chief enemy #1, but I'm going to go ahead and re-post some discourse we had back in June of 2006 regarding the use of comps as a means of valuing properties.
Todd said:
"Don't you think comps are only to be used as a general guide when pricing a home ?"
Marc replied:
"Yes. They can only be used a guideline in declining or rising markets."
You did then go one to say in that same reply that you felt comps were the best way to value properties.
I think you were correct the first time when you said they should be a guideline.
I appreciate your willingness to discuss, even if we don't always agree. :)
Todd,
I have a bit of auction exhaustion and I am trying to put another deal together right now.
We'll have to debate another time.
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