Research

Estimating the extent of home transaction price decline within a rising average market

The Average House Price Indices that we regularly publish are often open to “misinterpretation”. The fact that average house price indices rise in nominal terms for most of the time can conceivably lead certain viewers of these indices to mistakenly believe that all property values always rise. That is not entirely true. At times, an entire average house price index can decline, for example back around the time of the 2008/9 recession. But even when the average national house price index is on the rise, a certain portion of sellers are having to settle for a price lower than the price for which they bought the property. FNB monitors the extent of price decline and its fluctuations over time.

ESTIMATES OF THE EXTENT OF HOME TRANSACTION PRICE DECLINE WITHIN A RISING MARKET AVERAGE

The FNB Estate Agent Survey includes a question regarding prices obtained for investment properties put back on the market. The idea is to estimate the percentage of properties resold that fall into each of the 5 categories, namely “Original Purchase price +30% obtained for the sale”, “Purchase Price +20%”, Purchase Price +10%”, “Purchase Price”, and “Less Than Purchase Price”.

The answers that emanate from this part of the survey are far from being exact, but remind us of an important point, and that is that at any given time there are properties being sold for less than what they were bought for. They remind us that, although in the majority of cases the resale price is higher than the original purchase price, we cannot entirely take it for granted that this will always be the case.

FNB calculates 4-quarter moving averages on the data emanating from the survey answers, for smoothing purposes. According to the sample of agents surveyed, over the 4 quarters up to and including the 2nd quarter of 2016, 6% of investment properties being resold achieved a price less than what they were originally bought for.

Those that were believed to have achieved close to their original purchase price were estimated at 9.25% of total investment property sales. In the case of this category, effectively some loss was probably incurred due to the significant transaction-related costs of buying and selling of homes. Add this percentage to that of the properties believed to be selling below original purchase price, and in the case of 15.25% of investment properties resold you may have had some loss in the process.

The 6% of investment properties believed to be selling at less than their original purchase price is well down on an estimated 25.5% for the year 2012, that year probably reflecting the hangover from the end stages of the pre-2008 boom years where “less seasoned” investors were buying low yielding investment properties for exorbitant prices.

So for now, by recent historic standards the situation is relatively good. The overwhelming majority, i.e. 85% of investment properties being resold, are believed to be achieving 10% or more of their original purchase price. The breakdown of all 10%+ estimates is 45.75% estimated to be in the 10-20%+ range, 22.25% in the 20-30%+ range, and 17% fetching 30%+ more than original purchase price.

And FNB has not seen any recent rise to date in the percentage selling at less than purchase price.

FNB then adds their own calculations done using Deeds data for property transactions by individuals (natural persons), believed to be overwhelmingly residential transactions and reflective of the broader market, not merely investment properties. To reduce data errors and “abnormal” transactions, FNB excludes any sales transaction value 50% or more below its original purchase price. Here, they estimate 8.3% of total properties which were sold in the month of June 2016 to have achieved a price in a range of 5%-50% below their original purchase price, and 3.7% of sales to have been concluded at 0-5% less than original purchase price.

In short, the estimate is that 12% of sales took place at prices up to 50% below original purchase price.

As in the FNB Estate Agent Survey in investment property sales, this percentage estimate is significantly improved on the post-boom high of 20.9% of sales that took place at prices below original purchase price in September 2009, just after the last recession. The worst it ever got in the past 2 decades was when 31.9% of homes were estimated to be selling at below their original purchase price, back in January 1999 not long after that severe interest rate spike of 1998, when Prime Rate peaked at 25.5%.

The best the situation ever got was in July 2006, after a massive house price boom, when the estimated percentage of properties selling below their original purchase price reached a lowly 2.1% of total homes sold.

FACTORS CONTRIBUTING TO THE LEVEL OF SALES PRICES ACHIEVED BEING BELOW THE ORIGINAL PURCHASE PRICE

While the estimates point to the overwhelming majority of sales prices achieved being above the original purchase price of the property, it may nevertheless surprise some to see a still-significant percentage of properties selling for prices below their original purchase price.

There are some key contributing factors, and they are as follows:

• At any given time there are normally certain residential areas that are in “decay”, and their home values can be in decline even though the national average house price may be on the rise.

• A home is a depreciating asset if not fully maintained, and at any given time there is a portion of homes whose maintenance is not sufficient to ward of depreciation in value. Typically, the levels of maintenance can deteriorate in financially tougher times, too, with certain home owners postponing maintenance due to financial pressure. In the most recent FNB Estate Agent Survey, 14% of total home sellers were estimated to be selling to downscale due to financial pressure, not a high number by recorded historic standards but nevertheless significant.

• Financial pressure can force a “hasty” sale on certain households. When households can’t cope with the myriad of home running costs, they may have to accept offers hastily, not always being able to wait for a “good” offer.

• The need to relocate to another region hastily, perhaps due to a new employment opportunity, can also in some instances force a hasty sale, at a “sub-optimal” price, on a seller.

• Finally, price setting is never an exact science, so there will probably always be a portion of buyers who “over-bid” on homes relative to what the value of comparative home values in an area may be. Sometimes it is due to lack of knowledge, and sometimes due to emotions coming into a home buying decision. Those owners may come unstuck price-wise later on when trying to sell their home.

These estimates are important, especially for bonded homeowners and aspirant home buyers, because we need to understand that there is always a degree of risk of a “negative equity situation” developing, which refers to a situation where a home owner owes more than what her property is worth, and should she need to sell it, settling the outstanding mortgage debt at time of selling can become a challenge.

The good news for current home owners is that at the present time the problem of price decline is not that widespread by historic standards.

But it is nevertheless important for aspirant home buyers to understand that there exists the risk, albeit not currently a large one, that they may not necessarily achieve a selling price higher than their purchase price at some future stage. Such risks are increased when they financially “over-commit” on their home purchase, because that is when the risk increases of households not being able to afford full maintenance of the home, which can negatively impact on its value.

This all makes it crucial that buyers get the buying price right by doing good research regarding prices in an area, and that they have a good understanding of the many home running-related costs so as not to financially over-commit.

Read more here: Property Barometer_Price_decline_within_a_rising_average_Aug_2016