AUTHOR: Ken Verrett is the owner of Acorn Appraisal Associates, a 22 year old firm offering a wide range of quality appraisal services to the Financial and Business Communities in the greater Houston SMSA
Watching the dramatic rise in the price of oil the last few weeks, the resulting rise in the price of gasoline at the pump, and the actions of our elected representatives and those seeking election is both entertaining and instructive.
- Entertaining to watch folks complain about the result but not identify or agree on causes.
- Instructive because there are parallels to what the Appraisal Profession has experienced in the last few decades.
Neither the Democrats nor the Republicans have anything close to a policy to address the energy problem Both have had ample time and ample opportunities to do so. They certainly can’t agree on the causes. One side wants to increase the search for new oil reserves. The other worries about the environmental impact of that alternative and prefer to regulate increased mileage standards. Both want to find alternative fuels, alternative energy sources, but neither are willing to describe the costs to voters of taking bold action. There is even a lively debate about the amount of usable oil reserves left in Earth, and that debate centers around the term Peak Oil.
Peak Oil is not about running out of oil. It is about the crossing of demand and supply curves and what results when that happens. It is about lead times to develop alternatives. It is about the implications of such crossings of the curves as it relates to a critical commodity.
Energy Costs and Our Business
It’s not a just an interesting political problem. It’s an appraisal business problem. Today in Acorn I am dealing with the implications of $4.00 gasoline. We give a mileage allowance. Should the allowance be increased to compensate the staff? Should Acorn encourage the demand curve change by granting increased mileage allowance for those with fuel efficient autos? Whence does the cash to achieve that arise?
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We have photographers who are crisscrossing the Houston SMA cleaning up our photography project of the last year. No mileage allowance, but a flat rate per photo. The photographers are rightly suggesting that the flat rate should be reviewed in light of this permanently higher cost of doing business. Should we adjust? What are the implications to our cost of the project nationwide?
I hope that the problems of today will be even more severe next year. I hope it is $5, $6 gasoline as some are predicting. The price point seems to be $4 to affect demand curve changes. Good. Maybe that will cause us to address the real causes and the real issues sooner.
But see At $4, Everybody Gets Rational by Charles Krauthammer recently. Think that’s going to happen in an election year? No chance! But it should in my view. That would permanently shift the demand curve. It is shifting the demand curve currently, but it will shift back if prices decrease.
Energy Costs Affect Valuation Trends
In the short run and the long run energy cost will affect Acorn also. Within the next year we should see lessening of demand for mid to low price range subdivision housing which are distant from employment centers. Within the next two to three years we should see increased development of business complexes in those more distance communities.
We should see an increase in business space capacity in the higher density areas during that same period. Our research and appraisals should be alert to those changes as they occur.
Five years out, who knows? Increased high density housing in the inner city? Accelerated trends for mass transit and the implications on price trends of housing along those routes? Development of massive suburban subdivisions, thousands of acres, tens of thousands of homes, enough concentration to attract business development with employment opportunities as part of the grand plan?
All of that is likely….if the demand curve remains shifted, if the price point stays high.
The Energy Crisis is Similar to the Appraisal Crisis
We appraisers should be very familiar with this process, the changing of supply and demand, the shifting of supply and demand curves. But we rarely talk about it. Instead, like politicians today, we talk about the effects of those changes rather than the underlying causes. To do that is to miss the point, and I think we appraisers often miss the point.
The last twenty years has seen major changes in the Appraisal Profession.
- Centralization of the lending process, the disappearance of locally owned banks and S&Ls, replaced by branches of national lenders.
- The commoditization of the real estate loan and its blending into new investment instruments loosely known as Collateralized Mortgage Obligations.
- The adoption of De Minimis rules for regulated lenders.
- The technological revolution which is the personal computer and the creation and expansion of the internet.
Those items listed and others are the underlying structural changes which have created shifts in the demand and supply of appraisal services in the Appraisal Profession.
The first three had major impact on demand for appraisal services. They resulted in lenders seeking and finding new products to better fit their risk evaluation needs. Those included various automated valuation products, and replacements such as Broker Price Opinions, and County Assessed values in lieu of appraisals. I have seen estimates that as much as seventy percent of appraisal demand has now been replaced with these alternative valuation products. That’s quite a decrease in demand, a movement down and to the left along the demand curve!
The last item listed is the impact of technology. Those technologies vastly improved the productivity of appraisers. At the same time data bases of sales which were previously quite difficult and expensive to access became available to the general public and specialty business interests. What was once the major competitive advantage of appraisers….proprietary data bases…became available to others willing to compete to meet the needs of lenders.
That combination, the productivity improvements and the entrance of alternative suppliers of valuation products had two effects on the Appraisal Profession.
- The productivity increases drove costs down and shifted the entire supply curve down. At every level of appraisal demand, it cost less to produce the report. That’s what’s called a supply curve shift…the supply curve for appraisal services shifted down
- The entrance of alternative suppliers of valuation services created an increase in those willing and able to supply the valuation needs of lenders. That created a move along the shifted supply curve…down and to the right.
So what’s the result?
Sharply decreased demand for traditional appraisal products, as new products introduced alternatives for lenders, and the entrance of new competitors all created both shifts in the supply and demand curves as well as decreased demand and increased supply. For those familiar with the economics of supply and demand, the result is predictable. Vastly lower prices for appraisal products. Many appraisers blame AMCs for lower appraisal prices. Many blame the creation of state licensing of appraisers as creating too many new and untrained appraisers on the lower prices. Those factors likely had some influence. However, the biggest impact came from those four structural changes identified above.
Help Yourself
We really can’t address the problems of the appraisal profession until we can correctly identify the true underlying causes. Same is true of our national and worldwide energy problem. Nothing gets done until we address the real issues.
Want to learn more about Demand and Supply analysis so that you can begin to understand impact of the four major changes listed above? Here’s a great introduction to the subject: Interactive Demand and Supply Analysis. Might take you an hour or two to take the lessons, but the time is worth it in my opinion.
AUTHOR: Ken Verrett is the owner of Acorn Appraisal Associates, a 22 year old firm offering a wide range of quality appraisal services to the Financial and Business Communities in the greater Houston SMSA
I have the right to remain silent. Anything I say will be misquoted and used against me
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