By Morf Morford
Tacoma Daily Index
Who knew that a volatile housing market – with building materials at record high prices and intense skilled (and unskilled) labor shortages – that investing in real estate on a massive scale would be the ultimate risky business?
It’s my bias, and you’ve seen it on these pages before; anyone should have seen it coming.
Zillow, the housing reference/research company, with the Oscar winning real estate summary of the decade, observed that “the unpredictably in forecasting home prices far exceeds what we anticipated”.
And in other news, water is still wet.
Zillow Group Inc. is bailing on its home-flipping business, while disclosing expected losses of more than $550 million on homes purchased in the second half of this year for which the company admits it paid too much.
Blame the algorithm
As usual, as for almost every company these days, Zillow put the blame on a faulty algorithmic model which, in theory, allowed the company to buy and sell homes quickly.
Which leads to another one of my real estate biases; if there was anything a frenzied, over-priced real estate market absolutely did NOT need, it was an algorithmic system to buy and sell homes even faster.
Losing more than half a billion dollars in six months puts Zillow (almost) in Evergrande territory.
When it comes to value, two-thirds of the homes Zillow bought are underwater, the term “underwater” means that a house is worth less than the most recent price paid for it – as opposed to houses being literally underwater due to flooding or rising sea levels – which is also an issue in many areas.
One set of questions raised by this turn of events is whether Zillow was really bad at forecasting the real estate market – or if they see trends in real estate market on the horizon that the rest of us don’t see yet.
Where to now?
The real question then, is whether bailing out of the active real estate market at this point will turn out to be a good move – or a bad one.
I’m guessing that, for several reasons, from market forces to demographics to interest rates, the real estate market will stabilize, if not decline in the next few years.
As you might guess, dissolving the flipping business will take several quarters and include a reduction of Zillow’s workforce by approximately 25%.
And if you think you’ve made some bad investments, in the third quarter of 2021 Zillow said it bought 9,680 homes and sold 3,032 of them, with the sales producing an average loss in gross terms of more than $80,000 per house.
The third quarter of 2021 was a record quarter for home purchasing for Zillow.
In the previous quarter, they purchased 3,805 homes.
That’s about 14,000 homes in just six months.
And if you don’t think that number of sales would gin up an already sizzling real estate market, I have a slightly used bridge over the Puyallup River to sell you.
The Zillow news is also a cautionary tale about too much adherence to algorithms. Facebook is already under attack for its algorithms that prefer posts that goad users and stir up emotional reactions, while Zillow’s algorithms appear to be behind decisions that cost hundreds of millions of dollars and more than a thousand jobs.
But people write and control those algorithms, and somehow one or two of the components of that formula took dominance at the expense of all the others.
Zillow is attempting to sell about 7,000 homes to recoup $2.8 billion.
The question is whether Redfin and many others will follow Zillow into the black hole of massive real estate debt.
Is the precipitous debt of Zillow, and, presumably, other related companies from banks to mortgage companies or even local realtors, a sign of things to come, or a single company’s misstep?
That dream house might become more of a nightmare that you live in.
If you’ve ever put a bid on a home, or paid far more than you ever thought you would for a home, or if you’ve been stymied by home repair projects that only seemed to expand the more you worked on them, multiply that by 7,000 and you have a sense of the dilemma where Zillow – and more than a few other companies – find themselves.
Zillow intended to use data it collected from its app to pay fair prices and sell relatively quickly. The trouble was that the housing market moved faster than Zillow (or anyone) could.
Mix in labor shortages, fluctuating building material prices (and availability), the emergence of the work from home movement and COVID and you have a recipe for cash flow problems on a scale few companies could imagine – let alone cope with.
The real estate market seemed all too lucrative – even irresistible.
As always, demographics sets the tone; in 2020, about 4.7 million millennials turned 30, which is generally considered the beginning of people’s home-buying years. As of the end of 2021, another 4.8 million millennials will reach that milestone.
There is a lot of money to be made in real estate, but even more than in many other areas, the accumulated momentum just might go the other direction.
I’ve never liked the concept of “house-flipping”; it usually drives up prices, encourages shoddy work and distorts neighborhoods.
And if you wonder what your Zillow scrolling reveals about you, take a look here: https://www.apartmenttherapy.com/what-zillow-scrolling-says-about-you-36945614.
It might say more about you than your zodiac.