Priceless. Only relative prices matter. (The Bugle)

“Priceless. The myth of fair value.” The title of a fascinating book by William Poundstone investigates the hidden psychology of value. The back sleeve of the book reads: “People used to download music for free – then Steve Jobs convinced them to pay for it. How? By charging 99 cents. Prada and other luxury stores stock a few obscenely expensive items – just to make the rest of their inventory seem like a bargain. Why do text messages cost money, while emails are free? Why do jars of peanut butter keep getting smaller in order to keep the price the same? The answer is simple: prices are a collective hallucination.” 

The author takes you on a detailed journey of research into behavioural decision theory. It is a place where psychology and economics interact and demonstrates how pricing of everything and anything directly affects our relative value we ascribe to it. The thesis of this research is that we really do not ever understand the absolute pricing of anything, real estate included, but only the relative price of a good, service or product (or home) relative to other comparables. The idea of “anchoring” our perception of value is explained by the author, where quoted prices become the relative benchmark and discounting from these benchmarks then begins to create a relative perception of value in our own minds.  

The book has two chapters on real estate and explains the details of an interesting experiment conducted in Arizona on how people respond to the perceived value of a home, based on its listed price. An interesting question to ask your real estate agent, assuming he or she is impeccably honest, is what would you price my home at, if it was your own?  What is realistic pricing in any given market? It is always relative to other similar properties, and if the property is truly unique (almost never), then the comparison is to what the next best use of the money would be to the buyer. What Poundstone investigates in his book is to what extent can our perception of value be manipulated by the quoted prices we are confronted with. Despite us all thinking we are too smart to be tricked into believing a certain product has value at a prescribed price, all you have to do is watch one of the Verimark commercials to see these pricing psychology techniques at work, where pricing comparatives are quoted over and over and small additions are added to the product to make it seem so much bigger an offer than it actually is. And just when you thought they would put an end to the agony of enduring the sales pitch, you hear the words, “and that is not all…”. So does it work? Retail consultants would confirm that it does. 

This then begs the question as to what extent can the same method be used in pricing and selling real estate? Having had the experience of two decades worth of actively marketing and selling high end residential property, my view is that the anchoring technique described by Poundstone does in fact work – the value we ascribe to a property is influenced by its list price and by the pricing of comparables. Two measures of pricing realism, for residential properties, are (1.) the average time on the market and (2.) the percentage of properties sold at less than their asking price. For the 4-quarters up until 1^st quarter of 2013, the average estimated time of homes on the market, as measured by FNB, for the lower and middle income segments was 13,6 weeks and 14,5 weeks respectively. The upper income and high net worth segments recorded 17,8 weeks and 19,6 weeks respectively. The percentage of properties sold at less than their asking price, across these four categories were: Lower income (80,3%), Middle income (86,5%), Upper income (91,3%) and High net worth (83,5%). These figures indicate rampant over-pricing or a low level of price realism, which is more pronounced at the higher price end of the spectrum.

(Author: Andreas Wassenaar, published in The Bugle, 24 Feb 2013)