The U.S. real estate market is facing a trifecta of pressures: higher interest rates, higher home prices and the scarcest inventory seen in years. Together, these factors are leading to a hypercompetitive market in which buyers are willing to bid far above the asking price.
The asking price is the initial price of the home listed by the seller. Some sellers set this price artificially low to draw in more buyers. When a market is hot — and it hasn’t been this hot for many years — buyers are more likely to place bids above the asking price, and a bidding war between buyers can ensue.
A buyer searching for a house today may be thinking about the likelihood of interest rates and prices continuing to rise, or maybe they read an article about how the housing-supply shortage is unlikely to end anytime soon. These factors perpetuate a mindset of scarcity for buyers, in turn causing bidding wars to intensify.
Real estate is a long game. Buying a home is all about the appreciation rate as an asset grows more valuable over time. Historically, nationwide appreciation rates have been between 3.5% to 3.8% per year. The last couple years of intense competition have pushed these rates much higher.
When it comes to real estate, values tend to always increase, especially over the long run. Choosing to purchase a house is definitely worth it if the buyer understands how quickly they will see a return on their investment — even if they paid well above the asking price. Mortgage originators need to help their clients understand this dynamic.
Let’s take a brief look at the main players in a home sale — lenders, Realtors and buyers. Each have unique advantages and disadvantages in a hot housing market.
When it comes to real estate, values tend to always increase, especially over the long run. Choosing to buy a house is definitely worth it if the buyer understands how quickly they will see a return on their investment.
For lenders and the originators who work with them, this is a chance to become creative with financing and to really hone their craft. Currently, however, there are fewer mortgage applications since fewer people are refinancing due to interest rate hikes. Every lender is struggling to get buyers under contract.
Real estate agents who love a challenge thrive in times of change and passionately believe that the power of real estate will succeed in these market conditions. Agents will benefit from finding homes that don’t receive multiple offers. These homes may be right for a client, especially a first-time homebuyer, who can’t offer $150,000 above asking price. On the downside, agents need to spend a significant amount of time educating themselves on their local housing-market conditions so they can advise their clients on how to make the right choice.
It’s a two-way street for clients. Sellers have the upper hand and get to choose the best offer with a virtually guaranteed closing. It’s not uncommon to receive as many as 50 offers in the current market. Buyers aren’t so lucky.
Buyers must be savvy. They need to be completely committed to their highest and best offer, but they also should know when to walk away. Buyers need to have knowledge of how much a home might sell for in the neighborhood they are interested in. They need to financially prepare for going over the asking price while still expecting to see a return on their investment.
As you can see, buyers are facing an uphill battle. They need professional guidance as they navigate the market, especially when it comes to bidding above the asking price. Virtually every home on the market is receiving offers above the list price. In fact, nearly 6,000 U.S. homes sold for at least $100,000 over the asking price during the first six weeks of this year, according to Redfin.
By and large, young people and first-time homeowners are experiencing an intergenerational wealth transfer from older family members, who tend to be baby boomers. About 80% of millennials say they are willing to go beyond the asking price while one in six would bid at least $100,000 above the list price. There are three steps you should take to help buyers bid the right amount for the house they want:
Do a lot of research on comparable home sales in neighborhoods of interest.
Get the borrower preapproved every time, because mortgage rates fluctuate.
Have an honest conversation with clients about market conditions and budgets before they go shopping.
Finally, there’s the issue of the home appraisal. A real estate appraiser must assess a property to determine its fair market value, which assures the buyer and the lender that the price is justified. But today’s appraisals are often coming in low. With buyers placing bids so far above the asking price, they run the risk of a low appraisal, meaning they won’t be able to secure a loan large enough to cover what they’ve agreed to pay the seller.
If homebuyers find themselves in this situation, they either need to bring additional cash to the closing table, review terms for a higher-leverage loan (based on the appraised value) or capitalize on “appraisal gap insurance.” This is a term coined by lenders that optimize mortgage insurance to keep a buyer’s cash position the same. By increasing the monthly mortgage insurance payment, the new loan-to-value ratio based on the appraisal can remain higher than 80%. These options give the buyer a path to secure a place at the closing table, even with a low appraisal.
Buyers are losing confidence. They are worried they’ll have to submit a bid so extravagant they’ll never break even. This is where a bid-over-asking analysis can be a crucial tool to alleviate stress and empower the buyer.
A bid-over-asking analysis evaluates how long it will take a borrower to earn back the money on their investment when they had to pay more than the asking price. The analysis looks at a specific housing market, how much homes have historically appreciated and how much they are expected to continue appreciating.
Simply put, such an analysis is nothing but a math problem that shows the guaranteed payback of a client’s investment over time. The analysis gives a buyer the assurance that bidding above the asking price is worth it. Realizing they will get their money back in, say, eight to 20 months, will give them the confidence they need to move forward with the deal.
Many current analyses suggest that markets are cushioned against a downturn since homes are equity rich and buyers are extremely qualified. If there is a recession, as some say there will be, the housing market will only benefit due to the lower mortgage rates that usually accompany a downturn. Even in the worst-case scenario, home values should continue to grow.
In the competitive housing market of 2022, these are the tools you need to succeed. First, have expert knowledge of the market you’re exploring. Second, have creative options when managing appraisal pitfalls (e.g., appraisal gap insurance). Lastly, a bid-over-asking price analysis can help clients understand the expected timeline for a return on their investment.
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Buyers who truly understand real estate appreciation will recognize that bidding above the asking price will not derail their path to building generational wealth and securing their future. Homeownership remains one of the best long-term investments, so mortgage originators and real estate agents can play a key role in setting up their clients for success. ●
Nicole Rueth is a producing branch manager and senior vice president for the Rueth Team at Fairway Independent Mortgage Corp. in Englewood, Colorado. Rueth has been passionately advising clients on their wealth-building and home-financing strategies for nearly 20 years. Rueth has excelled at originating loans, due in part to an initial background on the operations side of mortgage financing, including warehouse management, lender relationships, post-closing and loan-product management. Reach Rueth at firstname.lastname@example.org.
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