A curious phenomenon of human nature is the tendency to overvalue what we own. Case in point: fantasy football.
I’m in multiple leagues this year as well, and for whatever reason, I really enjoy the trading aspect of fantasy football. And over the years, I’ve definitely noticed a tendency among people to overvalue their own players (for the record, I’m not immune from this tendency either). You make an offer for a backup quarterback, and I could sit there are claim that he’s the best thing since sliced bread, despite the fact that he threw as many interceptions and touchdowns so far this year. It’s a funny thing, this overvaluing of what we own.
Of course, this phenomenon is extremely well-known in the real estate world. Listing agents tell story after story of trying to break the bad news to the homeowner that as it turns out, the market just doesn’t think his house is worth $600,000 anymore. Yes, yes, your gorgeous Zen backyard is the pride and joy of your life… but the buyers don’t care that much. Yes, I know how much time and money you’ve put into that mural in the dining room; unfortunately, the market just doesn’t share your taste for Elvis paintings.
Seems to me that when you have unique objects for sale, the preferred method of dealing with that is an auction. Things like artwork, antique cars, sports memorabilia, and other things are extremely difficult to price. If you’re talking about a brand new Mercedes Benz, the manufacturer spent a certain amount of money to design, produce, and market the thing, so they set the price and let the dealers figure it out. But there is a price, since there are thousands of the same identical vehicle in the market. When you’re talking about a 1955 Mercedes Benz 300 SL… it’s impossible to stick a price tag on something like that.
So… when someone wants to part with a 300 SL, he puts it up for auction. And the results are sometimes surprising, and yet, if that’s what the market will pay for a unique item, then that’s what that unique item is worth, period, end of story. You and all of the experts might think the 300 SL is worth $600K – $700K, but apparently at least one buyer thought it was worth $1.375 million.
Given that real estate is dealing with unique items (for the most part… yes, exceptions exist), why do we see so few auctions of properties? The seller and the agent can set a reserve price below which there is no sale, and then all of the buyer agents simply attend the auction on behalf of their clients. Whichever client walks away with the winning bid gets the house.
The complications I see have mostly to do with financing. Contingent offers wouldn’t work in an auction setting for obvious reasons. But maybe this isn’t a bad thing?
If banks were lending strictly on the basis of the borrower’s ability to repay, instead of relying so much on the underlying property as security, maybe we wouldn’t have a repeat of the foreclosure crisis we’re having now? Thinking further about it, we’d likely need a new kind of debt instrument that blends the unsecured nature of personal loans to the borrower with the security element of a mortgage; perhaps the rates are set as they are now, depending on the underlying asset (the house), while the credit risk is evaluated on the borrower’s personal profile? With banks realizing that they really don’t want to be stuck foreclosing on a house, that may be the reality of the lending environment today anyhow.
So if every buyer is walking in with a pre-approval that is rock solid, prohibited from contingent offers, would this work or not in real estate?
What am I missing about auctions and why we see so few of them in the sale of homes?
-rsh
