Purchasing in a housing market with limited inventory and many competing buyers can be daunting and discouraging. This environment is known as a seller’s market where the seller has pricing power due to a large amount of demand from prospective buyers. Even as the real estate industry undergoes a shift to more virtual practices due to the global pandemic, in markets like the Bay Area, sellers continue to retain the ability to command high prices for their properties.
A standard way to quantify if you are in a seller’s market is to calculate the home absorption rate. This is the rate at which homes sell in a specific market segment or price range over a given period of time, usually a month. A similar metric to consider is Months Supply of Inventory (MSI) which estimates how long the current supply of inventory will take to sell. This metric rate is calculated by dividing the number of homes available by the total average number of homes sold monthly. An MIS under 5 months typically indicates a seller’s market. For some local context, in the Bay Area we regularly see inventory supplies of 2 months or less.
No one wants to spend time researching homes, taking virtual tours, and reviewing disclosure documents only to lose out on offer day due to a poorly targeted or non-viable offer. It’s time consuming, inefficient, and dejecting. So if you are a first time buyer or are looking to buy in a market where you are unfamiliar with the local customs and pricing dynamics, you should rely on a trusted real estate agent to guide you through the process.
No one wants to spend time researching homes, taking virtual tours, and reviewing disclosure documents only to lose out on offer day due to a poorly targeted or non-viable offer.
I’ve assembled a list of items to help you better understand and navigate a seller’s market. If you follow these suggestions, you can dramatically increase your chances of quickly winning the home of your dreams.
Set a realistic budget
This is where everything starts. The first thing do to is get a pre-approval from your lender to understand how much you can afford to pay for a home based on your savings and annual income. More important than the total amount you can pay for a given property is the monthly cash outlay to service your mortgage. So while you may end up paying a higher price for a given property, if a lower interest rate or a larger down payment allows you to manage your monthly cash flow within reasonable bounds, you won’t find your self ‘house-rich and cash-poor’.
Target your search
In a competitive seller’s market it is common for homes to sell for 20% to 40% over the initial listing price. For example, if a seller ultimately wants to net $1M for their home, they would probably consider listing it for around $699,000. You might wonder why seller’s don’t just list the home for the price they want to command.
In a competitive seller’s market it is common for homes to sell for 20% to 40% over the initial listing price.
This pricing strategy has to do with creating a perception of scarcity. When buyers see a price for a home that is below the neighboring comparables, they are more likely to place a bid on the property. Agents representing buyers will call the listing agent to inquire about how much interest there is in the property. If there is a high degree of interest, the buyer’s agent will be more likely to encourage their client to bid as high as possible in an attempt to win the bid. This can lead to a bidding war which has the effect of driving up the final selling price – which is exactly what the seller wants to happen.
In a seller’s market you should assume that these dynamics will play out during the course of your search and target properties that are 20%-40% below your top budget number. This will allow you to bid aggressively against a large number of other buyers and still prevail in submitting the winning bid.
Listen to your agent
Your agent should have expert knowledge about the local market, the agent community, local lenders, business practices, vendors, city and county codes, and most importantly, pricing trends. If you want to avoid the frustration of sitting on the sidelines while other offers win-out, take the recommendations of your agent to heart. If you don’t believe or trust your agent, find a new agent. There is no benefit to working with someone you don’t respect.
Understand the importance of agent reputations
While it may not be obvious to most buyers, part of the strength of your offer is the reputation of your agent. When reviewing an offer for a property, the listing agent has to consider the price offered, financing terms, contingencies, and the experience and temperament of the agent representing the buyer. While this last factor is not a quantitative consideration, agent reputations are important since the buyer and seller agents will have to work closely together throughout the escrow process once the property is in contract.
While it may not be obvious to most buyers, part of the strength of your offer is the reputation of your agent.
If a buyer’s agent has a reputation for being knowledgeable, collaborative, solutions oriented, responsive, and professional, it greatly improves the chances that the seller’s agent will recommend that offer to their client. Buyer agents that regularly present offers which are obviously non-viable (anything under $30,000 of the projected sales price) signal a lack of understanding of property valuation which leads to a reputational decline. This is another reason you want to work with an agent that is analytical, has a deep understanding of local market trends, and is known for valuation acumen.
Learn from your mistakes
It’s not uncommon to miss out on your first or second offer due to inexperience or a hope that you might get lucky and have few offers on the table for the seller to consider. In a seller’s market you should recognize that there will always be a relatively high number of bids for the seller to choose from and if your offer isn’t the strongest of the bunch you will not find yourself in contract. Learn as you go and adjust your strategy, in consultation with your agent, to either raise your offer price or target properties in a lower price tier in order to give you the best opportunity to present a top notch bid.
Ultimately real estate prices are driven by the market of what buyers are willing to pay. In almost every situation, home sellers want to command the highest price for their asset and are unlikely to offer discounts or award a contract to bids that aren’t competitive. While there are factors other than price that can influence a bid selection, sellers would be irrational to leave tens, or hundreds of thousands, of dollars on the table by accepting anything but the highest bids.
It can be difficult to accept that you can’t always afford the house of your dreams.
It can be difficult to accept that you can’t always afford the house of your dreams. However, it is almost always better to get into contract as soon as possible in order to begin building equity in your new property. With sound planning and a long-term vision for your financial future you will be able to ladder up over time. If you are smart and patient, you will be able to leverage earlier investments to eventually achieve your dreams. Don’t engage in magical thinking or let your ideals interfere with reality. Get started as soon as possible and begin the journey to your financial future.