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The Limitations of Computer Valuations for Real Estate

The-Limitations-of-Computer-Valuations-for-Real-Estate

Technology and the Internet have undoubtedly changed the way we experience and interpret our environment. For real estate, it has brought extensive amounts of information to our computers with just a few simple clicks. Like many things in life, it is not solely the information that is important but the accuracy and application of that information that makes the most substantial difference for real estate.

Websites like Zillow and Trulia have grown in large part from their delivery of information directly to individuals in the form of automated home valuations. They use widely available information on home sales and make it user-friendly to view the “estimated value” of your or even your neighbor’s homes. Curiosity really does kill the cat, and human nature drives us to these sites to see if our home is worth more than the next guy’s.

The problem with these computer valuations is their accuracy and expectations for real estate transactions.

The Flaws

Subjective Versus Objective

Real estate valuations are subjective in nature. Computer valuations (much like appraisals) attempt to use objective measures to value something for which we simply just don’t have all the variables in order to accurately appraise. This is the biggest problem we run into with real estate valuations. What a property is “worth” ultimately transcends into what someone is willing to pay for it relative to the other available options.

Objective information like square footage, lot size or number of bedrooms and bathrooms provide facts for a baseline and potential value range, but they cannot account for those subtle differences in features, finishes, views, position within a neighborhood and a host of other factors that affect a buyer’s perception of value when they are searching for their potential “forever home.”

Lastly, the number of options available can often affect the market value of different features in a home. If there is an abundance of homes available in the buyer’s sought-after region, then a buyer potentially may not value a feature like a view as highly as when there are few options. During a low inventory market climate, like the one Denver is experiencing currently, the price of a home with fewer desirable features may have a smaller impact on the value compared to a time when more housing options are plentiful.

Same, But Different

There are many Denver neighborhoods that have similar, or even the exact same, floor plan home. However, even though these homes can have the same model, there can still be large differences in the homes and values. One may have a nicer lot and yard, one may have superior finishes, one could be closer to a park, or perhaps have better curb appeal. The problem that lies with computer valuations is when we try to put an objective value on these differences. Yet again, the value of these homes is primarily determined by a buyer’s perception of the value of each feature relative to the rest of the neighborhood

Location, Location, Location

As we see in many parts of the Denver metro area, real estate valuing can vary significantly based on the neighborhood and the location within the neighborhood. The old saying “real estate is location, location, location” is now – and will remain – a defining factor. A house in a particular neighborhood can sell for much more than a similar house just a few blocks away. Factors like walkability, schools, and neighborhood appeal drastically affect the final value in terms of location.

Style Matters

Many parts of Denver real estate have great variety and diversity in the type of construction, style of home and age. This diversity has great appeal to many of us who live here and love our Denver real estate. However, trying to understand how these different homes are valued to buyers is also a difficult proposition, more art than science. As an example look at Washington Park (Wash Park for Denverites). Within this very desirable neighborhood you will find many styles of homes. The difficulty lies in understanding the large price differences and appeal between a multi-level home, a historic Tudor, Craftsman, Mid-century modern, new construction or other available designs. These styles of homes often have almost the same amount of square feet, yet have valuations that are significantly different.

Accuracy Please?

The most popular and prolific site for automated valuations is Zillow, and it reports its median error rate at 7.9%*. Now, let’s take a moment to think about that number. 7.9% median rate means that over half the valuations are wrong by that much or more, so on a home in the range of $400,000 the automated valuation is likely to be miscalculated by $31,600 or more. Let’s call a spade a spade here – $31,600 is a pretty substantial amount to be off and is only marginally better than just taking a wild guess. Sure, the valuation may be accurate sometimes, but that is just statistical happenstance. If you have millions of estimates, some are bound to be correct based on a baseline of prices in a given area.

Can you imagine calling your financial advisor and asking how much your investments are worth and getting a figure followed by a disclaimer that says that figure has a median error rate of 7.9%? Outrage would ensue, along with a new career path for the advisor.

Newest Automated Models

Recently, new online real estate valuation companies have emerged claiming higher accuracy rates by using descriptions from agents and homeowners to help curve accuracy. So if the listing is entered with “mountain views” they can assign a supposed value to that. Once again, however, it’s nearly impossible to objectively value because the description does not show the actual “mountain view.” Is it to the side? Partial? From all rooms? Are there obstructions, such as a road? Anyone who has looked at homes online and then in person knows that features are frequently exaggerated because they come from human beings. We all have different options and feelings on what constitutes a “mountain view” or many other features, so trying to assign a value to that is cautiously problematic at best.

What Do You Expect?

The problem with large errors in values from these automated valuation methods leads to another large problem which setting false expectations. Anyone can be drawn in by the site of a high number and if that number proves to be unrealistic it may lead to a pricing strategy that ultimately results in a lower sales price. If the price estimate is low 1.) A potential buyer may use this number to value your home not understanding that the automated valuation is much lower than the true market price of the home 2.) You may also set the sale price lower than you should potentially costing yourself 7.9% or more!

The Solution

So, why do people love to look at these valuations if they are seemingly this inaccurate? Well, the answer’s simple. It’s easy and entertaining, but everyone should remember there is no real efficient way of determining exactly what your home is worth using computer models.

There is no magic solution to create absolute valuation accuracy. The subjective nature of real estate, economic factors and basic human perception will always play a role. Although there are many investment perks to owning a home, there will always remain the personal element. Buying a home has to be a combination of life enjoyment and enhancement with sound real estate planning for your life long goals.

Real estate is influenced by the overall economy, but real estate is primarily local. The best way to value your real estate is a combination of great data and a knowledgeable professional knowing how to use the information in a specific market. Understanding how buyers value specific features in your city, general area and even neighborhood is a critical component of accuracy and the only way to acquire that understanding is with daily exposure and expertise in Denver real estate. Finding a balance of information and local experience ensures the best chance at precise values.

It never hurts to look, but understand that a computer estimate is likely off substantially and be sure to secure an accurate assessment from a professional before making any life-altering home decisions.

*Source: Zillow

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