How do appraisers determine if there is an oversupply or shortage of homes?

supply_and_demandTalk is that there is starting to be a shortage of homes for sale in the real estate market, and in case you missed your basic economics course supply and demand play a big part in home prices. To refresh your memory: If the supply of a good (ie homes) is reduced, and the demand remains the same or increases then the price will most likely increase. If there really is a shortage of homes then home prices will probably be affected, so it is very important for the appraiser to be able to determine if there is a shortage or an oversupply of homes. I thought I would share with you how appraisers go about making this determination.

During our discussion please keep in mind that real estate is location and property specific, and just because there is a shortage in one area does not mean this is true all over. In addition, supply and demand can vary among homes in different price ranges, so we may see a shortage of homes for sale in the $100,000 to $200,000 price range but an oversupply of homes for sale over $1,000,000. While appraisers have always been required to research and analyze market conditions in their appraisal assignments it has only been recently that a form was developed to communicate the findings of our research. The 1004MC (MC stands for market conditions) has been a part of the standard residential appraisal form for the past several years. This form shows data about home sales occurring over the past 12 months and includes information about the number of home sales and listings, including days on market (DOM), absorption rate, median list price and sales price, and sale price to list price ratio. I’ve included a video to show what the form looks like and to further explain how we use it to determine whether there is a shortage or oversupply of homes.

As an appraiser we must take MLS sales data and break it down to help us learn more about real estate market trends that occurred over the last 12 months. By looking at the number of sales that occurred within this time period, the current inventory of homes, and the rate of sales, we can determine if their is a shortage or surplus of homes. To do this we calculate the absorption rate which is a measure of  how long it will take to sell the current inventory of homes in a given market.  This market can be on a large scale such as for the entire country, or it can also be calculated on a state, county, city or even on a neighborhood level.  To determine if there is a surplus or shortage of homes similar to a certain property it is best to drill down into the data with property specific information like year built, school system, price range, and square footage. In addition, specific property types or house styles may have a different absorption rate,  however depending on the amount of sales activity in an area this may not be possible. By calculating the absorption rate you can determine what type of market you are in.  You can determine if the market is oversupplied, under supplied, or in balance.

Absorption rate is calculated by taking the number of homes that are currently listed for sale, and under contract, and dividing it by the rate of sales for a given period. This figure will tell you how many months of inventory there currently is. Different areas vary but anywhere from 4-6 months is considered a balanced market. Anything less than this would be a sellers market because there is not enough inventory to satisfy demand and anything more than 7 months would be a buyers market because there is too much inventory. As I mentioned previously, when there is a shortage prices tend to increase and when there is an oversupply prices tend to decrease.

Can you see why being very specific can give you more accurate data? It’s possible that a community as a whole may have an over supply of homes but within a certain price range and type of house there may be a shortage. Do you think what you come up with as an asking price should reflect this? Let me know your thoughts by leaving a comment below.

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  1. J.D. Hix says

    Great information. Is this data available to the public or only to MLS subscribers? I know the St. Louis Federal Reserve (FRED) collects and publishes a lot of economic data including property and real estate sales that can be broken down by state, county, or zip code but is there some other place that the specific data you’ve mentioned in your blog is made available to the public?

    • Yes, the information I use is only available to subscribers. I don’t think this information would be available to the typical consumer in any market. Thanks for asking.

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