When it comes to the most important parts of your job as a real estate agent, there are a lot of tasks that may come to mind.
Generating leads, writing contracts, showing homes, negotiating offers, navigating the contract process, and so much more. And all of those are important, but none are the most important.
The reason it is the most important is that it is what everything else revolves around. It is the foundation of everything that happens in real estate.
If you can’t accurately estimate the value of a property you are going to have a hard time listing it for the right price. You may get your clients in trouble by recommending that they offer too much, or too little. Negotiations will be harder. And let’s not forget about the appraisal.
So many appraisal issues can be avoided or minimized if the price of the home is estimated correctly.
There are multiple aspects to property valuation, but today we are going to focus on the first step you must take any time you analyze a property.
In this post, we are going to break down the ways to identify your market and find the very best comparables possible.
Step #1: Identify the Market Boundaries
How many times have you heard someone say that your comparables have to be within 1 mile?
Did you know that’s not an actual rule?
Sure, it may be a guideline that many appraisers use, many banks as well, but it is not an actual rule that you have to stick to.
The first thing you need to do with any comp search is to determine the boundaries for your market that outline the area that a typical buyer would look within.
Sometimes that is more than a mile.
Sometimes it is significantly less than a mile.
For example, a one-mile radius to the east of a property may cross you over a major road and into a much lower – or higher – priced area in which a typical buyer would not consider looking. However, one mile to the West could still have you within the same neighborhood, or a very similar neighborhood, and you may want to extend that boundary to more than a mile in this case.
Inversely, perhaps your subject property is in a very unique and exclusive neighborhood, in an overall area that has homes of much lower price or quality. In this case, you may want to define your market area as the actual neighborhood boundaries, if the typical buyer would only consider a home in this specific neighborhood.
The key is to not get stuck on the details of the distance, but rather to focus on only picking comparables from similar overall areas that a typical buyer would also consider.
We recommend drawing in the market boundaries on the comp search map within your MLS search feature.
This helps guarantee that you are only seeing properties within boundaries that you believe a buyer would look within. Major roads, landmarks, parks, or open spaces make good boundaries for your market.
Step #2: Decide on Your Search Criteria
Once you have defined your market boundaries, the next step is to break the market down into two segments.
The first segment we call the narrow market.
The narrow market is made up of only the most similar properties that fall within your market boundaries.
The idea is to narrow down your search criteria as much as possible, while still getting a large enough pool of data to find comps as well as to calculate statistics.
Ideally, you probably want somewhere in the range of 100-150 properties over 365 days, however, sometimes you may not be able to find this many properties in the narrow market without expanding the criteria so much that you lose the similarity of the properties, and therefore the effectiveness of the data analysis.
So how narrow should you get?
Let’s look at an example…
Details of your property:
- 3,500 total square feet
- 1,000 square foot basement with 90% finish
- 2 car garage
- 8,000 square foot lot
- Built-in 2018
Initial Search Criteria
- Location: within market boundaries drawn in
- Size: 3,250 sf to 3,750 sf
- Basement: 500+ sf with 50%+ finish
- Garage: 2-3
- Lot Size: 5,000 sf – 12,500 sf
- Year Built: 2015+
- Sale Date: 180 days prior or less
In this example, you will see that we tried to bracket the details of the home for each category.
This is not an exact science. Use your experience to decide where to set these limits initially.
For example, if you know there are several homes in the area that are significantly more expensive, and they are all 3,700 square feet or bigger, maybe you want to set your upper limit at 3,699 square feet.
Or perhaps you know that several homes that were built before 2015 that were lower overall quality, and therefore much lower in price. Maybe, in this case, you would want to set your age criteria as 2015+.
We can also increase the timeframe that we are looking at. In the initial search, we only looked at the prior six months, as this is preferable. However, due to our ability to use the market statistics data that we will be able to calculate from these searches, we can easily and accurately identify the market trends and therefore we can use older sales if needed.
Many times it may be preferable to use a home that sold more than six months ago, even in a rapidly increasing or decreasing market, rather than using a comparable that sold more recently but is much less similar overall to our property in regards to condition, amenities, size, etc.
Remember, this is just a starting point. Once we run the search and see the results it generates, we can come back to the criteria and tweak it to help exclude potential outliers or include potential properties that we feel are missing.
Once you have a good set of criteria, we recommend that you screenshot it, or PDF print it, so that you can easily recreate this market in the future if needed.
We also recommend exporting this data as a CSV file, which can be opened in Microsoft Excel, or other tools that use CSV-based data input, such as the Comp Adjuster.
This will allow us to run a statistical analysis on the market data to determine price trends and how they affect the comps we choose (More on this in a future post).
Step #3: Identifying the Best Comparables
Once you have determined your neighborhood boundaries, as well as your search criteria, you want to try and pick comparables that are the most similar overall to the home, ideally bracketing it on the upper and lower end for things such as square footage, age, lot size, and potentially condition.
What does that mean with our example?
Ideally, we would want at least one comp that is smaller than 3,500 total square feet, and at least one that is bigger.
We would want at least one that has a larger basement with more finish, and at least one with a smaller basement with less finish. And so on down the list of criteria that we used in the search.
The exception to this would be if you have several comparables that are extremely similar to your property, for example, in a new construction neighborhood with a limited number of floor plans. In this case, you may likely be able to find a few sales of the same floor plan.
The reason that we want to have comparables that bracket our property, if possible, is because it helps us to verify that the adjustments we make to those comparables are accurate.
Don’t pick comps that bracket your property just for the sake of bracketing. They still need to be similar properties that would be considered by a typical buyer in the market.
You should try to pick comps that are as close to the current date as possible, however, if a property is more similar overall in condition, size, features, etc. but sold a few months ago it may still end up being a better comparable to choose than something less similar overall that sold recently.
The reason for this is because with a good statistical analysis you can determine the time adjustment that is needed to bring that comparable up to current prices and give a more supportable estimate of value than adjusting a less similar comparable for the differences that it may have.
We recommend picking 3 or 4 sold comparables, and 1 or 2 listing comparables (active, pending, under contract) if possible.
Step #4: Export Your Overall Market
Remember how earlier we said that we like to break down the data into two markets?
We already went over the narrow market above, now it’s time to talk about the overall market.
The overall market is made up of all homes that fall within the market boundaries that you outlined on your map. It’s all property types, all sizes, all price ranges, etc.
In this market, we want as much data as possible. For most MLS systems the most you can export at one time is 1,500 properties.
We create the overall market by simply removing all of the search criteria, other than the market boundaries that we drew on our map.
While there may be many homes in this data set that are not felt to be comparables, it is important to analyze the overall market as it does have an impact on all the properties within it, including your subject property.
Just as with the narrow market, we recommend that you export this data so that you can use it to run a market analysis.
But why is the overall market important?
Let’s say that you have a very small narrow market, but a large overall market. The market trends from the overall market may be more accurate than the market trends from the narrow market, as they will be able to smooth out the impact of outliers that may have a significant impact on the narrow market.
Ideally, when analyzing the market statistics you will combine the two, through a weighted average analysis, to help identify the most supportable view of the market.
In this post, we went over the best ways to identify your market, both the narrow and the overall market. We showed you how to decide on your search criteria. We talked about picking the best overall comparables. And lastly, we talked about the importance of the overall market.
Next week, we are going to talk about how to use the narrow market and overall market CSV files we created in our comp search to run market statistics, and why that is so much better than relying on the market trend data published by your local MLS board or other real estate resources.