APPRAISALS CONTRIBUTE TO BOOMS AND BUBBLES? HOW?!
Appraisals contribute to bubbles and exacerbate downturns? How could that be? Well, the Federal Reserve Bank knows and, in today’s podcast, explains just how.
Over the last couple of weeks I have been investigating how to set the listing price for a home when it is put on the market, and the impact that a listing agent might have on that process, and have concluded that setting the asking price at around 3-4% above market is the optimal level at which to maximize sales price while minimizing time on market. Be sure to listen to these at national real estate forum dot org, or NRE Forum dot org.
All that is just fine, but how is market price determined? During the recent downturn banks were expected to ‘mark to market’ their loan portfolios, but the challenge came in determining what market value was. How do you do that when the market is in tremendous flux, or even when it isn’t? Well, there are a few ways. One is to actually market a property thoroughly and whatever is the highest deliverable bid becomes the definitive market value, you could get a broker’s opinion of value, or, you could either write or get an appraisal.
I have always been a skeptical of the third party appraisal process, because I only ever conduct my own due diligence – in other words, conduct my own appraisals – to establish a property’s value. Third party appraisals are only relevant for banks and even they only use them because regulations mandate that they do.
FEDERAL RESERVE BANK GUEST, LEONARD NAKAMURA
It my great pleasure to introduce to you Dr. Leonard Nakamura, who is vice president and economist at the Federal Reserve Bank of Philadelphia, and who very kindly shared with me his unique view of the extent to which the appraisal process can impact the housing market overall. Though I am sure you already know, the Federal Reserve Bank is tasked with implementing monetary policy and, as lender of last resort, is also responsible for monitoring and regulating the entire banking system. Dr. Nakamura’s perspective on appraisals is, therefore, not only extremely interesting, but also provides insights into this ubiquitous component of the housing market that you have doubtless not before considered. This is a rare opportunity to hear from one of the foremost experts in our banking system so please tell your friends and colleagues to go to NREForum dot org and just hit play to hear him and my other guests.
Oh, and be sure to listen to the end of my conversation with Dr. Nakamura for some personal insights into his fascinating background.
[That’s Walt Wriston, W.R.I.S.T.O.N. As CEO in the late 1970s, Wriston was famous for having changed the name of the bank from First National Bank to Citibank and for having launched the Citicard pioneering, as it did, the development of the now ubiquitous 24 hour ATM machine.]
Fascinating. In the period before the market tanked in 2009, 2010, and while property values continued to rise relentlessly, an overestimated appraisal was insulated from repercussions because, well, prices kept rising so they were never wrong. As a consequence, in the refinance market, which accounted for much of the lending in the pre-downturn period, appraisers became accustomed to over estimating house prices. This contributed, in part, to the run up in house prices. Once well intentioned regulations were implemented that put stricter guidelines on the appraisal process, the pendulum swung the other way and a higher proportion of appraisals started coming in below market price, causing both purchasers and refinancers to fail to conclude their transactions. This may have further exacerbated the downturn by making it harder than it already was to finance home purchases and so inadvertently propelled an already steep decline in property values.
I never thought of the appraisal process as having the potential for anything but an impact on individual loan transactions. It never occurred to me that, when viewed as a systemic cog in the entire industry, that they actually contribute to the swings both up and down in the market, so I am most grateful to Dr. Nakamura and the Federal Reserve Bank of Philadelphia for taking the time out to share this aspect of their work with us today.
If you also found this an interesting perspective please do share this on linked-in book, or facechat, or twittering about it if you have the inclination. And please tell your friends and colleagues to check out the website www.nationalrealestateforum.org or www.NREForum.org where all you need to is hit the play button to hear the latest episode.