Market value: easy to see, easy to reckon and easy to “support.”
How could this possibly be a problem?
We recognize that there are other definitions of value. Many. The question we ask:
Is market value always value in the market? After the last economic crisis started, I looked at the standard definition used for real estate transactions, as per FIRREA. (Appraisers almost universally use this definition). Eight elements stand out:
- Most probable price in a competitive and open market;
- Buyers and sellers acting prudently and knowledgeably;
- There is no undue stimulus;
- Buyers are typically motivated;
- Both parties are well informed or well advised;
- Reasonable market exposure time is allowed;
- Payment is in U.S. cash or comparable thereto;
- Price is unaffected by special or creative financing or sales concessions
Each element was compared by its intent to its reality at the beginning of the crisis. What came out was STARTLING. ANOTHER FOIBLE! This was the result: The Dell Operative Definition of Market Value. The reality – – –
“Market value means the most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting speculatively with exuberance, and assuming the price is affected by universal euphoria. Implicit in this definition is the consummation of a sale as of a specified date and the passing of title from seller to buyer under conditions whereby:
- buyer and seller are avariciously motivated; biased
- both parties are uninformed and advised by commissioned salespeople acting in what they consider their own best interests;
- a reasonable time is allowed for exposure in the open market;
- payment is made in terms of cash in U.S. dollars or in terms of financial arrangements comparable thereto; and
- the price represents the normal consideration for the property sold enabled by unrestricted special and creative financing provided by commissioned salespeople.”
Of the eight elements, three had stayed unchanged:
- The market was still open and competitive.
- Market exposure time is allowed.
- Payment is in U.S. dollars.
Five of the remaining elements were not true.
- The market was speculative, and not knowledgeable in speculative real estate.
- There was substantial and undue stimulus.
- Buyers were atypically
- Buyers were poorly informed, advised by commissioned advisors.
- Creative financing was rampant.
The “market” had changed from a place to live — to a way to get rich. Buyers were enthralled. Sales agents, loan agents, and executives did well.
The hens cackled and flapped their wings in excitement. The foxes fattened the hens. The roosters ran away. The wolves helped the foxes. The rattle snakes kept quiet. The farmer jumped on his new deluxe tractor. Everyone was happy.
August 30, 2017 @ 4:13 am
Your calling this: “Market Price Myths Fallacies and Foibles #4: Value = Market Price = Market Value?”
Why not just: “Market Price vs Market Value”
Its short and sweet get to the point and I don’t spend a couple of minutes trying to figure out that it meant or have to googled “Foibles”.
Seriously George who are you trying to impress?
😉
August 30, 2017 @ 2:18 pm
George, oddly IRS has no exposure time requirement as a required element in any of it’s fair market value definitions. ( http://www.mfford.com value definitions tab on left. ) Respectfully George, we have far too much philosophical discussion and analyses in appraisal today, and not enough common sense.
August 31, 2017 @ 8:17 am
Mike Ford makes an excellent comment, noting that there are actually multiple definitions of market value and/or fair market value (value in exchange). And the reality is that all the definitions are DIFFERENT, and those differences are more than semantic. The standard definition of market value you reference is from the Code of Federal Regulations (also published in the FNMA Selling Guide), but is appropriate only for federally related lending transactions. The fact that “appraisers almost universally use this definition” means that for assignments that do not involve mortgage lending, appraisers are probably using the WRONG definition.
The eight elements you cite in your initial set of bullet points are indeed part of the lending definition of market value, but many of them are NOT found in other definitions. Consider the following.
“Most probable price” is not found in any other definition. Many use the term “highest price,” and we could endlessly debate whether those terms would generate the same number. The Yellow Book definition of fair market value likely comes closest to most probable price, using the term “in all probability” in describing the “amount” the property would have sold for, but without ever using the word “price.” And some definitions (like the IRS definitions for estate tax and casualty loss) specify no value standard – most probable, highest or otherwise.
The concept of a competitive and open market is found only in the standard lending definition and the Yellow Book definition. The definition of fair market value from the California R & T code says “open market,” but nothing about that market being competitive. And other definitions, including those published by the IRS, in the California Code of Civil Procedure (CCP) and CACI Jury Instructions, say nothing at all about the market being competitive or open.
The word “prudently,” as nearly as I can tell, is found only in the lending definition of market value. You suggest that prior to the market crisis that buyers were “avariciously motivated,” meaning that they were greedy (I had to look it up). But isn’t greed simply an overwhelming expectation of profit? And isn’t that prudent, particularly in markets that were going up by double digits annually? Discussion of market value in the Dictionary of Real Estate Appraisal indicates that buyers and sellers are expected to act in “self interest;” couldn’t that be interpreted as avarice if the market is providing such opportunity f? Motivation is generally relative to prevailing market conditions . . . which is precisely why the effective date is so critical . . . if speculation, exuberance and euphoria are rampant, we shouldn’t be surprised to see that reflected in market prices. And our duty is to report the market as it is, not as we think it should be (although comments about market risk are certainly appropriate).
The word “knowledge” or “knowledgeably” appear in most definitions, but they can’t necessarily be interpreted the same way. The way the word is used in the standard lending definition is very broad, while in other cases (CCP and CACI Jury Instructions, for example), the word knowledge relates specifically to “uses and purposes for which the property is reasonably adaptable and available.” IRS definitions specify “reasonable knowledge of relevant facts,” which sounds a lot like the term “well informed,” something we usually assume, whether the definition specifically says so or not.
Which brings us to the term “well advised,” which is found ONLY in the lending definitions of market value. Many alternate definitions presume knowledge (whatever that means), but none of them mention “advice.” And I would argue that commissioned agents do, in fact, provide good advice (most of the time; and their code of ethics requires them to protect and promote their client’s interests). But if the market is increasing at double digits, the advice from the agent might be to tell the client to buy now before prices go even higher. Is this really bad advice?
Cash terms is something else that is not included in all definitions of market value/fair market value (only the lending definition, Yellow Book and R & T code impose this condition). We still usually assume cash terms, but many definitions do not require it.
Undue stimulus is probably the only condition that applies universally to all market value/fair market value definitions.
The one thing I will agree with is that creative financing drove the market prior to the last downturn. Emphasis on monthly payments was paramount, price just followed along for the ride. Anyone looking at the growth in prices relative to incomes in the early 2000’s could have seen it coming, but no one knew exactly when the bubble would burst. And the behavior of the financial markets certainly contributed, in ways we couldn’t even have imagined.
So I’m NOT adopting yet another definition of market value. The problem is that we already have too many, and they vary widely in what they say. And appraisers don’t pay nearly enough attention to what definition of value they should use for non-lending assignments.