When people are picking a listing agent to sell their home they can fall victim to any number of self-imposed myths or outright lies perpetuated by the agents they talk to. When I hear about these it really gets my dander up. Of course, in reality, I don’t have dander. Dander is “loose scales formed on the skin and shed from the coat or feathers of various animals” so I’m not entirely sure how I can get mine up. But any way, many of these conversations are inane. Here are some of my favorite examples.

“I don’t discount my commission because if I did I wouldn’t work as hard selling your property”. Some sellers already subscribe to a variation of this lie themselves: “I don’t want to negotiate the commission down because then they won’t be motivated to sell my house”.

This is utter nonsense. The reason a real estate agent won’t discount is because they are sitting fat and happy with lots of referral business with people who are willing to pay full commission. They’ve got a strong network that they have been very effective at leveraging to get more business. Furthermore, many of these same agents will take referrals from other agents or take Internet referrals from their broker and forfeit up to 30% of their commission in each case. So, obviously they don’t have an issue with earning less under the right circumstances. If you want a deal, move on to someone else.

Also, if a real estate agent takes a listing at a reduced commission don’t believe for a minute that they are going to work less diligently on it. First, if they took the listing they must have decided it was worth it. Second, if they are the kind of agent that would take a listing and then neglect it you were going to have trouble with them anyway. Third, if their degree of attention was proportional to the commission rate then perhaps you should pay them 15% and get lots of attention, right? After all, there is no reason to believe that you coincidentally get the optimal amount of attention at 6%.

“I will look for buyers in _____________” or “I have a lot of buyers for this type of house” or “My office works with a lot of buyers for houses like this”. This falls under the heading of the listing agent delivers buyers. Many sellers already believe this without a listing agent having to tell tall tales of their prowess with buyers.

More nonsense. The fact of the matter is that the listing agent is usually not the one that delivers buyers. It’s the buyers’ agents that deliver buyers. The listing agent gets the listing in front of the buyers and their agents and positions the house in the most favorable light for them. For instance, I just pulled over 600 sales of single family homes in Lincoln Park over a more than 2 year period from the MLS. In less than 15% of the cases did the listing agent produce the buyer. The other 85% of the time it was a buyer’s agent.

One other thing. If a potential listing agent is talking about delivering the buyers herself or through her office I would get very worried. That might be a red flag that she is trying to get both sides of the commission and might pursue that strategy to the detriment of exposing your house to other agents. I have heard conversations where this appears to be an explicit strategy.

“My list-to-sell ratio is___” or “My average time on market is______”. You’re supposed to be impressed with a high list-to-sell ratio or a short market time. However, how do you know the agent isn’t giving the houses away? That would certainly make both of these numbers look favorable. I’m not suggesting you ignore these numbers entirely, but you should be aware of the limitations of these numbers and take them with a chunk of rock salt.

As always, when dealing with those slippery real estate agents caveat emptor.

I have to be really careful writing this because the last thing I want to do is come across as being self serving. Nevertheless, I want to examine the issue of selling a house on your own.

Starting with my parents, my family has always had a great degree of mistrust with regard to the real estate industry. Therefore, selling a house without a real estate agent is an approach that my parents have successfully taken on several occasions and my wife and I successfully pulled it off just prior to moving back to Chicago in 2000. Faced with the prospect of an $18,000 commission on a $300,000 house my wife and I decided we could do it on our own, despite the fact that we had a strict timetable. So clearly it can be done, but under what circumstances?

First some random statistics of questionable validity regarding FSBOs (For Sale By Owner. This is an almost derogatory term used by the real estate industry which is meant to imply that these people are exceedingly naive to think that they can perform the “highly skilled job” of a real estate agent on their own):

• According to the Chicago Association of Realtors the number of FSBO classified ads that run in the Chicago Tribune is virtually negligible. Of course, I would imagine that most FSBOs don’t run classified ads.
• According to a survey conducted by the National Association of Realtors (NAR), only 11% of people selling a home in an urban area like Chicago sell that home on their own. Of that group approximately half knew the buyer ahead of time so that they really didn’t have to “sell” their home.
• There is an interesting myth out there. What they told us in our training classes on marketing to FSBOs is that 80% of the people who attempt to sell their home on their own will ultimately turn it over to an agent. However, I calculated from the NAR’s own survey data that for sellers that did not know the buyer the percentage is closer to 38%. Perhaps the myth originated with an often quoted December 9, 1998 Realty Times article by Steven Poscente where he claimed that “studies show that 70% eventually hire a Realtor and 80% of those who don’t say, ‘Next time I hire a Realtor’. ” Only thing is, he doesn’t exactly say what studies show this. Looks like this is another one of those industry lies.

The real estate industry would like you to believe that it’s not a very popular or successful option. Maybe. Maybe not. More importantly, let’s examine what you should consider in determining if selling your home on your own makes sense for you. Because clearly it often works.

How much money will you save?

This is probably the #1 consideration for most people. When most people ask themselves this question they are thinking in terms of a 6% commission and if it’s an expensive home the answer will often be “a lot”. However, 6% is the wrong number for a few reasons.

First, even if you sell your home yourself you will likely have to pay a buyer’s agent a “cooperating commission” to bring a buyer to the table. Why? Because, according to the most recent NAR survey of buyers and sellers, 89% of buyers are working with a Realtor and you don’t want to limit yourself to only 11% of the potential market. And the commission you pay the buyer’s agent will usually be 2 - 2.5% and it’s the same whether you are using a Realtor to sell your home or not. The only difference is that a good listing agent can provide you with some guidance regarding what that number should be based upon current listings on the market. So you don’t save the entire commission by selling the home yourself, just the sell side commission.

Second, if you can find a good discount broker (like us!), that sell side commission should be a lot less than 3.5% (6% - 2.5% cooperating commission). In addition, when you sell a home yourself you will still want your home to appear on the MLS and you are going to have to pay a broker several hundred dollars to do that. The bottom line is that the savings of selling a home yourself might only amount to a few thousand dollars.

How much is your time worth?

The other side of the savings equation of course is how much of your time will you have to spend in order to realize the savings discussed above. Selling a home yourself can be a lot more time consuming than you realize - especially if you’ve never been through the process on your own before. As you read through some of the issues raised below stop to think about how much time it will take for you to duplicate these efforts. You’ll be surprised at the time that will be spent gathering the proper documents together, becoming familiar with the legal requirements, coordinating various services, obtaining feedback, negotiating the deal, and coordinating closing. If these activities weren’t that time consuming we would be able to lower our commissions even more or we would be a lot more profitable.

Then there is the question of whether or not you even have the time to devote to selling your home. When my wife and I sold our home in Richmond we just about ran out of time after 3 months in a fairly hot market. We lucked out when a buyer materialized at the last possible moment, just prior to us throwing in the towel and listing the home with an agent.

Do you really know what your home is worth?

My wife and I were lucky in this regard as well. We lived in an area where all the houses were pretty much the same - two story colonials built at approximately the same time. The difference in prices was pretty much driven by the square footage of the homes. If you live in a development like this or you live in a large condominium complex with fairly identical units currently for sale then putting a price on your home should be pretty easy. Unfortunately, not many people in the Chicago area have this luxury and even if they do there are always some people (actually a lot of people) that think their home is somehow special and worth a lot more than everyone else’s - after all it does have that special gold embossed maroon wallpaper in the kitchen. For instance right now there is a home for sale by owner right around the corner from me for $850,000, which is clearly priced higher than very similar units in the development by approximately $130,000. It’s just not going to move, which is a very expensive mistake. And of course, underpricing a house is also an expensive mistake. Back in the days of the real estate boom I used to always cringe when a FSBO would tell me that they sold their house in 1 week, at list price. That tells me they under priced their house.

The fundamental question you need to ask yourself is what is the probability that you will lose at least as much on mis-pricing your home as you will save by selling it on your own? A one or two percent error is pretty easy to make and will wipe out anything you saved on the commission.

Are you sufficiently familiar with the home selling process in Illinois? In your city?

Some examples of the process issues to be aware of:

• There are a host of legal obligations that you need to be aware of, such as disclosures.
• Then there are the various closing costs for which you will be responsible. You don’t want surprises at the last minute so you should make sure you accurately estimate your proceeds.
• And there are the various land mines that some prospective buyers bring with them - contingencies, skittish lenders, buyer’s remorse, unethical behavior.
• There are also other last minute surprises to be on the lookout for such as unfavorable home inspections, title problems, survey problems, local government obstacles.

How do you navigate all of this?

Do you know how to market your home?

It’s all about exposure. Better exposure means a quicker sale and a higher price. A good agent will provide a fairly standard package of marketing tools:

• MLS Listing
• Professional photos - a variety of studies have shown that a good set of photos will improve the ultimate selling price by 4.2% and the number of days on the market has been shown to be shortened by 30 days
• Virtual tours
• Public open houses
• Broker open houses
• Print ads
• Distribution of your listing on over 100 Web sites
• Perhaps an “exclusive” relationship with Yahoo! Real Estate
• Your home’s own Web site

Some of these are bogus - a topic for another blog post at some point. However, there is a necessary combination of these that are critical to a successful sales process. For the individual trying to sell their home on their own it’s actually difficult to replicate these because of the cost and the learning curve. Because Realtors use these tools frequently they get better pricing and can execute a marketing plan much easier than you can.

In addition, a good agent will provide you with staging advice, which can prove invaluable. This is another area where my wife and I lucked out in Richmond. A parade of real estate agents vying for our affections offered lots of staging advice, which we took.

How will you handle letting total strangers into your house?

This is pretty straight forward. There’s a certain value in letting the real estate agent take the bullet instead of you.

How will you conduct yourself when showing your home to a prospective buyer so as to maximize your negotiating position?

I’m always amazed at how much information people will inadvertently divulge about their situation. They freely discuss personal matters, life events, and their motivations - all of which a skilled buyer’s agent could leverage for a lower price. Even their demeanor can leave clues regarding their vulnerabilities or convey nervousness.

How effectively can you negotiate the contract?

There are actually several traps that sellers can fall into on their own and any one of these can easily wipe out any commission savings.

• Believe it or not people often get emotional when negotiating the single largest transaction of their life and this impairs their judgment. They are inclined to argue over trivial points, over complicate the deal terms, allow themselves to get offended, or offend the other party.
• A seller might not have access to the right data or know how to leverage the data to improve their negotiating position.
• I have been shocked by people who sold their home on their own who have told me that they were able to drop their price during negotiations because of the money they saved on the commission. Aside from the fact that they overestimated the commission savings, it was clear that they were far too eager to forfeit their savings.
• Armed with an unrealistic belief in the superiority of their own home, sellers can often overestimate the likelihood of a better offer in a reasonable time frame.

My wife and I lucked out again in this area since the other party was not represented and willingly paid our asking price. However, as a coldly rational negotiator I was aptly suited for a much more vigorous negotiation.

The Bottom Line

If you really feel like you are up to the task of selling your home yourself then go for it. My wife and I were definitely up to the task and we benefited from a fair amount of luck. On the other hand you should also realize that there is a point at which the value provided by a good Realtor is worth at least as much as the savings from selling your home yourself. That premise has served as one of the guiding principles in establishing our commission model. Our goal has been to set our commission so that when a seller looks at what we offer and compares it to the cost they will feel absolutely certain that it is worth it. That’s usually not the case for a full commission broker.

Not many real estate brokers will tell you what I am about to tell you:

1. Most of the data you’ve been fed about housing price changes is grossly misleading
2. Housing is not the great investment that the NAR (National Association of Realtors) wants you to believe

Let me give you some typical examples of the information that is out there on the subject of housing prices and the problems with this information. While the information is usually true in some way it is often misunderstood, and sometimes that is the intention.

Example #1

Two days ago the Tribune ran an article, “Home sales, prices decline statewide; city not as bad”, which stated that the median Chicago condo price in March rose 8% over last year. So what do you think that means? That condos in the city have appreciated 8% in this lousy real estate market? I don’t think so.

All it means is that the median price of a condo which sold in March was 8% higher than the condos that sold a year ago. But that doesn’t mean that the value of condos went up. More than likely it means that the mix of condos which sold this March is skewed more towards expensive condos. Maybe this year there are more 3 bedroom condos being sold and fewer 2 bedroom condos.

Example #2

According to the Tribune’s Real Estate Market Pulse, in Lakeview between 12/1/2002 and 2/28/2003 the median home sales price was $320,000 vs. $245,500 one year prior. Some people would look at the Lakeview data and conclude that housing in Lakeview appreciated by over 30% in one year. However, this is that median problem again.

Example #3

In late 2006 and early 2007 the NAR ran an ad campaign that stated, among other things, that “Housing is a great investment, with average home valuations increasing 88 percent in the last 10 years”. That works out to 6.5% per year on average (keep that number in mind for later). Of course, this 10 year period just happened to coincide with the most outrageous 10 year period of housing appreciation in the nation’s history, for which we are now paying the price. Unfortunately, they’re implying that home buyers can expect that appreciation going forward, which is absurd. This self-serving information appears to be intentionally misleading. But isn’t that the point of advertising?

Example #4

In late 2005 the Tribune published a map showing home price appreciation for each of the Chicago communities and some of the surrounding suburbs. One of the communities they highlighted was Uptown, where they claimed home prices had appreciated on average by 9% per year over 10 years, which is huge. In addition, they showed the 1996 price of a home (presumably the average?) as $121,918 and the 2005 price of a home as $265,000.

This example is interesting because not only does it suffer from the median or average problem that I’ve already addressed, but it also suffers from a math error that seems to recur throughout this map. The percentage change is wrong. For Uptown, given those home prices the average appreciation rate (if you can call it that) actually works out to 8.1% per year.

The Correct Way to Analyze Housing Price Trends

Fortunately, there is a more robust way to track housing prices. The S&P/Case-Shiller home price index tracks repeat sales of homes so that they can really tell if homes are appreciating and by how much. This index has been calculated for 20 metropolitan areas and Chicago is one of them, going back to January 1987. For each metropolitan area they calculate the index for low, middle, and high price tiers, along with a composite index.

The Chicago metropolitan area is defined broadly to include the counties of Cook, DuPage, McHenry, Kane, Kendall, Lake, and Will. In this area the pricing tiers are defined as:

• Low - Under $227,766
• Middle - $227,766 - $348,054
• High - Above $348,054

Here is what the data shows:

There are several points to note in this graph:

• Data for the individual tiers are not available prior to January 1992
• The lower priced tiers have appreciated more rapidly than the higher priced tiers. This makes sense in light of the “innovations” in subprime lending that spurred growth at the lower end of the market.
• The Chicago housing market peaked in September 2006, right around the time that the NAR came out with their great investment campaign. Since then prices have declined 9.1%. I guess it wasn’t such a great investment after all.

Speaking of investments, how has Chicago real estate performed as an investment? Case-Shiller provides comparisons of various asset classes such as stocks, bonds, commodities, and housing over the last 10 years, which has been a stellar time period for housing. I won’t bother to show you how Chicago real estate compared to stocks because we all know that stocks haven’t done that well during this time period. However, comparing Chicago real estate to bonds is a different story:

Basically, over this time period, you would have ended up slightly better off had you invested in bonds vs. Chicago real estate. However, there is a bit more to the story:

• The average appreciation of Chicago real estate from January 1987 to December 1998 was 3.7% per year.
• Starting in 1999 people thought they were rich (remember the tech bubble?) and they went on a home buying spree. In addition, this is approximately when subprime lending really took off.
• From January 1999 through the peak in September 2006 the growth rate jumped to 8.3% per year.
• To put all these percentages in perspective Robert Shiller (of the Case-Shiller Index) analyzed home prices going back to 1890. For the first 100 or so years of that time frame his data shows that the average appreciation of homes, after adjusting for inflation, was….are you ready for this? Zero!

Nevertheless, someone will always say “But I’ve owned my house for 3 years and my equity has doubled”. OK…but that has to do with leverage, and in the good ol’ days that leverage was 5:1. Since then it has sometimes been infinite. So if your house appreciates by 20% and you are leveraged 5:1 then your equity doubles. Of course, leverage works both ways. If your home depreciates by 20% then you are wiped out, and this has happened to a few people lately. It happened to me in New Jersey in 1993 (actually, I lost double my equity). However, if you like leverage, you can leverage investments in stocks, bonds, or commodities as well. It’s a great way to lose your ass.

OK. So why is a real estate broker telling you all this? Shouldn’t I be convincing you to buy, buy, buy? For one, I am sickened by the self-serving analysis of the real estate industry and I want to set Lucid Realty apart from this madness. Secondly, I want to make a really important point: Your house is not an investment. It is a place to live. Don’t buy a home primarily because of some perceived investment opportunity. You may or may not realize it. Of course, I’m not suggesting that you shouldn’t try to find the best value when shopping for a house. After all, that’s where we come in. It’s just that some people make the mistake of letting the perceived investment opportunity overshadow other considerations. Let me put it another way: what kind of investment is your car? And before answering that remind yourself that you don’t (normally) sleep there at night.

If you want an investment, there are plenty of much simpler ways to invest your money. And if you want a real estate investment then look to income producing property that you subject to rigorous financial analysis. In the meantime, if you want a place to tuck your kids into bed at night or have a group of close friends over please give us a call.

This is Part I because I have a feeling that I am going to be writing about this topic for a long time.

Having spent a lot of time in past lives analyzing data to make business decisions I know how people often mistakenly use data or intentionally use them to misrepresent the facts. The real estate industry is ripe with examples of statistics used inappropriately and, frankly, I can’t tell if it’s just incompetence or maliciousness. Let me give you a few great examples.

Example 1

My favorite is the real estate industry’s often trumpeted “Research shows that in 2006, sellers who worked with a real estate professional sold their homes for an average of 32 percent more than homes that sold directly by their owners.” That particular quote is from the March 2008 issue of Realtor Magazine but I’ve seen variations of this quote all over the place. We’re encouraged to use it to convince sellers to use a real estate agent to sell their home. I guess they expect the cowering seller to immediately sign up for a 6 or maybe even 7% commission, which is a small price to pay for realizing a 32% higher sales price.

Excuse me? How stupid do they think we are? I don’t doubt for a minute that the statement and underlying statistics are 100% correct. And I also don’t doubt that a really good agent can get a higher price for a home than a seller can on their own. But 32%? Come on! As a REALTOR® I would be embarassed to tell a seller this.

So what’s really going on here? I think it’s pretty simple. People with more expensive homes are more likely to use a real estate agent to sell their home. This could be for any number of reasons:

• They have higher incomes and can afford to pay a commission
• The volume of home sales in their price bracket is lower so it’s a little bit harder to sell their home
• They tend to be older with larger families and have less time to spend selling a home themselves
• More expensive homes offer more fertile prospecting for real estate agents so they’re all over these owners

I think we’ve beaten this one to death.

Example 2

“Our brokerage’s sales volume is up X% over last year while all of our competitors have shown sales declines”. Again, this is intended to wow the unsuspecting buyer or seller into signing with that particular brokerage firm.

Well, I’m sure the data is correct but the implied conclusion is wrong. There are two problems with this statement:

• The number 1 way for a broker to grow is by recruiting agents from their competitors, so odds are that this is exactly what happened. I happen to know for a fact that the fastest growing broker in Chicago right now is growing exactly in this manner and is using the resulting data to try to market themselves.
• The implication is that when you sign with an agent you are somehow also benefiting from all the success of that brokerage. While that would be true of a firm that actually employs their agents, like ours, it makes no sense at all for a firm that uses independent contractors.

This issue of how brokers grow and the drawbacks of the independent contractor model are covered in more detail in our real estate industry white paper if you are interested.

This misuse of the data is endemic to the real estate industry. If it weren’t so pathetic it would actually be funny but at least it provides plenty of fodder for future blog posts.