When starting out in property it’s easy to believe that it’s all about buying below market value; after all, no self-respecting investor would attend a property networking event or post on any property forum if they weren’t negotiating furiously for 20%, 25% or 30% discounts from market value. But as I’ve mentioned before, although we live in a BMV era, sometimes it can be entirely appropriate to buy at full market value, and dare I say, sometimes at even more than market value.
In my opinion, property investors – especially new or inexperienced investors – are often preoccupied with buying below market value when the truth of the matter is that they may not be buying BMV after all, but rather BAP, or below asking price.
Many assume that the asking price equates to the value. It doesn’t, or at least, it might or might not, and it’s important not to assume that the asking price reflects the true market value. The chances are that you’ll not know who has set an asking price, or how they came up with that figure and so the asking price might be too high, or it could be too low, or it could be just right. Figuring out how close the price is to true market value will all be down to your due diligence and you should never assume anything.
A major flaw in making BMV part of your strategy is that market value is hard to quantify. The RICS (Royal Institution of Chartered Surveyors) defines market value as: “The estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arm’s-length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently and without compulsion.”
It’s easy to define what MV is in principle, but in practice I’d argue that this explanation doesn’t mean a lot. Most valuers (who are mostly Chartered Surveyors operating under the RICS definition), and I’m talking about the ‘valuers’ who undertake valuations for mortgages and not the ‘valuers’ who estate agents send out to suggest an asking price when you put a property on the market, (although they too could be RICS qualified), will use evidence provided by recent transactions. In other words, they’ll be mainly guided by the sale prices of other similar properties in the locality.
However, in a slow market with fewer sales, valuers have only limited market evidence that they can use to put a figure on a property. This means that they may have to rely on their own judgement, experience (or lack of it) or prejudices.
What’s more, the RICS definition assumes that sellers are acting without compulsion. We know that, especially in a slow market, there are property owners that are ‘under compulsion’. Some may be experiencing financial difficulties and need to sell quickly, others may find themselves in situations such as divorce or the need to relocate quickly, and as a result, they drop the price in order to get a quick sale.
With this in mind, the quality of the evidence used by valuers is often rather inaccurate. Looking at recent sales prices of similar properties, valuers have no additional notes that tell them why the sellers sold at that price. Nor do valuers sift through the evidence and discard the sales where sellers were ‘under compulsion’, or what we’d call, ‘motivated sellers’.
As a result, in a falling or static market there’s almost certainly a distortion of values downward, and even in a good market, it can still be difficult to assess market values because of ‘impure’ evidence.
Valuations are very much open to interpretation. As someone quite succinctly put it, “Valuation is an art not a science.” In fact, if three valuers were to look at a single property, it is unlikely that they would all arrive at the same figure.
Back in the 1990’s I was involved in providing expert evidence to the High Court that was considering a number of negligence claims against valuers. One of the considerations the Court passed judgement on was how much margin for error a valuer has. The usual presumption of plus or minus 10% was hardly questioned and in one case, the Judge took the view that when carrying out an unusual or a complex valuation, the margin could be up to plus or minus 25%!
I think that was extreme and I don’t think his comments created a legal precedent. Even so, with just a 10% margin of error, a valuer can value your £100,000 house at anywhere between £90,000 and £110,000 and still be right. Add to this evidence the sales where by the sellers needed to walk away from their properties quickly at £75,000 or £80,000, or a repossession that might be sold at auction at a discount of 40% or 50%, and it could be anybody’s guess what the real value of a property actually is.
The point I’m making is that it’s extremely hard to know what true market value is, and when you’re basing your strategy purely on buying below market value, how can you ever be sure to what extent the figures are distorted?
We’ll look at this in more detail next week.
Here’s to successful property investing
Peter Jones B.Sc FRICS
Chartered Surveyor, author and property investor
By the way… if you’re considering “property” as the path to your own financial freedom, why not take a look at my best selling “The Successful Property Investor’s Strategy Workshop” to help you get started. This is an account of how I put together my multi-property portfolio, starting from scratch and with no money of my own, and how you can do the same. Find out more at: thepropertyteacher.co.uk/the-successful-property-investors-strategy-workshop.