Welcome to my new series, “Understanding Pricing.”
- How do sellers set the price for their house when they want to sell it?
- If you want to buy a house, how do you know if the price is a fair market price?
In this blog, I will explain the way that the real estate market works and how this affects house prices.
Then in the next blog, I will discuss price expectations. Is it a buyer’s market or a seller’s market?
The real estate market is cyclical. There are four phases: 1. Recovery, 2. Expansion, 3. Hyper supply, and 4. Recession. (Learn more about these phases by reading Teo Nicolais’ “How to use real estate trends to predict the next housing bubble.”) According to economist Homer Hoyt’s study of the US real estate market, the real estate cycle runs a predictable 18-year rhythm and has done since 1800.
Understanding the current phase of the market will give you some insight on house prices. Prices are at their lowest in a recession or recovery phases, but pricing starts to increase in expansion and hyper supply phases.
I drew this chart and added some notes on key points in the different phases using Bigger Pocket’s “The Real Estate Market: How to Analyze and Predict Cycles.” Brandon Turner goes into more details in his post that I am going to talk about here. If you want to learn more about these phases, you should definitely read his article. And for even more, you can read Giovanni Isaksen’s “Market Cycle Charts with a little more detail.”
The reason you see price going up and down is because of the current supply and demand in the real estate market. Supply is the number of houses on the market and demand is the interest from buyers to purchase homes.
In addition to this, markets are different in different locations. In fact, real estate is often hyperlocal at the subdivision or neighborhood level (maybe even just a few streets).
And real estate is also seasonal. The majority of sales happen in the spring and summer months of the year, and tend to decrease during the fall and winter. Take a look at this chart of the Montgomery County market activity (closed sales) for the last 10 years.
As you can see, there is regular seasonality with a peak in the summer and a low in the winter. Hover over the line in the chart to see monthly data points.
You can explore some of our DC metro area’s data on Trulia’s website.
In my next post, we will continue to look at the real estate market and price expectations. Is it a buyer’s market or a seller’s market? What does that mean? Is supply going up or down? How does that affect you? What are some key indicators you can look at?