Playing With House Money

Playing With House Money

SHORT VERSION

How much of the current record-setting price gains are self perpetuating?

That is, ‘I just got paid $100,000.00 over asking, so now I too will pay $100,000.00 over asking… maybe $120,000.00 over’.

It’s ‘found money’ – easy come easy go.

LONG VERSION

For those of you smart enough to never have gambled, you may not be familiar with the term ‘House Money’. This is when a player has won money from the house, and is now gambling with said winnings – with the house money rather than their own. It is of course their own money, but it came so easily and so quickly no deep attachment has yet been formed.

There is a psychological impact – some might say an illogical one – of gambling with winnings as opposed to gambling with hard-earned money. What tends to happen is gamblers place bigger bets and they place riskier bets, not a great combination.

In other words we take bigger chances with ‘found money’.

This effect is well known in the stock markets. A strong market performance will change notably  the individuals risk tolerance profile, as profits grow so too does tolerance for risk. (And the opposite happens with sustained losses.)

The Vancouver real estate market is proving highly unusual, unlike most others in the world. Indeed some liken it to a casino or simply a stack of speculators running prices up.

Is it possible though that the House Money Effect is at play here?

And if so, is the House Money Effect in play for typical buyers and sellers, not just for the gamblers and speculators who, in fact, make up a very small percentage of actual market activity?

The #1 driver of real estate purchases is new-household-formation. It’s the kids moving out, it’s pair bonding and multiplying, it’s migration from other provinces, and it’s immigration from outside Canada. New households need new homes.

You and I perhaps?

Last year during final negotiations on the sale of our residence we increased the price by $100,000.00 in the 11th hour. And the buyers agreed to it… quickly. Amazing! That was the easiest $100,000.00 ever!

We quickly locked down a new property, and as much as we would have liked to make an offer below the asking price, we were flush with an extra $100,000.00 of found money because of our sharp Realtor’s negotiation skills. So trying to grind out a $25,000.00 reduction on the purchase was an idea I was able to let go of more easily than usual.

At moments in the purchase negotiation I felt like we might be paying as much as $100,000.00 too much for the new place, but I took comfort in that extra $100,000 from the sale. Easy come, easy go.

Some months later I found myself having a frank conversation about the price adjustment with the buyer of our home. As it turned out, he had received $160,000.00 over the asking price for his previous home – $160,000.00 more than he expected to sell for.

$160,000.00 of found money.

House Money.

So for him the $100,000.00 bump in our negotiations was not too big an issue.

Was the buyer of his home coming off of a similar sale?

The sellers we bought from  made a lateral market move, feeling great about achieving a record-setting price in the neighbourhood.

It was only a few months later that a home similar to our new one set an even higher benchmark price, in turn making me feel better about how much we had paid.

So how many buyers are paying an extra $50,000.00, $100,000.00, or $160,000.00 for their new home after getting paid a similar premium for their old home?

How big a role does the House Money Effect play in perpetuating the rising prices were are enduring?

It is a soft data point, intangible, and not easily measured.

It is however a real thing.

All it takes to understand this is a few lucky hands of blackjack in a row, a few hits in a row on a slot machine, or an offer on your home well above the asking price.

Have an excellent day.

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