Sunk Costs, Pricing Theories and Restless Shoppers in Real Estate

Shopping for real estate is unlike shopping for anything else. For most, buying a home will be the single biggest financial decision of their lives. Those purchasing a home are about to agree to pay the largest sum of money they will ever pay in one transaction. They are also in the process of committing to that property for a substantial portion of their lives. 15-30 years, if they are financing the home. Because of this, most people will succumb to the pressures of the market and rightfully so. Buying a home can be an emotional experience. In most cases, too much emotion can hinder how well we evaluate our decision and that could have lasting effects.

Earlier this week, I came across a short article from NY Mag written by a couple that have been experiencing many of the pressures that most people will also encounter when shopping for their next home. 

The first issue that this article poses is that we can often view the stagnant periods of the search as sunk costs. Sunk costs are an economic idea that once an individual becomes invested in something, that they relent cutting the ties with said investment no matter how badly that investment may be treating them. Sunk costs are something that I, as an investor, have to battle with all the time. I have learned that no matter how much I would like something to go my way, it is not guaranteed that it will. It is often more economical to abandon that sinking ship as quickly as possible rather than go down with it.  

The next idea that the article poses is the problematic idea of pricing a house. The price of a house is far more difficult to decide than the public knows. In most cases, a house isn't priced at what the owner chooses. Residential homes are almost always priced using a comparative pricing approach. All this means is that the price of the home is based upon the sold or list price of other similar homes in comparable areas within the last few months. This is almost always the case. To drive the final sales price up more than what the list price is, many listing agents will use a couple of different strategies. This is not an illegal or unethical practice. An agents job is to provide their client with the outcome that best serves their client's interest. It should also be said that homes do not usually sale much higher than they are listed and if a buyer chooses to offer more than the price that the home is listed, then that is a market indication that the home is actually worth that amount. There are two strategies that many will use. One such strategy is to list the property for less than it is actually worth and create a bidding war between the buyers. If this does become a multiple offer situation, it is likely that the final offer price will fall beyond the list price. The next strategy is to list a home substantially higher than it is actually worth and wait for someone to "lowball" an offer. Since everyone wants a bargain, buyers will make low offers and they often fall near what the original list price would be.

The final point of the article is that buyers usually become exhausted with the search and settle. It might sound silly for such a life altering decision, but searching for a home can be disappointing when things don't go your way. Sometimes those shopping for a home will be denied for a multitude of reasons, whether it be price, location, bank/loan problems or their desired homes already being bought. When this disappointment compounds, it can motivate the disgruntled buyers to become restless. When this happens, people will either settle for a property that they wouldn't have otherwise wanted or it encourages them to overpay for a home that they do like just to end the process. 

Shopping for a home can be a daunting, expensive and stressful process. It doesn't have to be. Unfortunately, a lot of real estate agents can become just as frustrated as their clients and that can only exacerbate things. One thing that can absolutely make a difference is diligent, patient and empathetic representation.