Zillow’s Secret Real Estate Hacks
Remodeling the bathroom, not the kitchen, gives you the most bang for your buck. Adjustable-rate mortgages aren’t evil. Buy on a street called Lake. And more from the real estate gurus.
Should you describe your house as unique? (No.) Redo that kitchen to increase your home’s value? (No.) Follow the gays? (Yes.)
Just in time for spring and summer, when the buying and selling of homes heats up across the United States, CEO Spencer Rascoff and chief economist Stan Humphries of the online real estate database Zillow have put together a book on the U.S. real estate market, Zillow Talk: The New Rules of Real Estate. Surprisingly fun, the book is filled with insights into everything from what streets are best to live on to the best language to use to describe your listing. Rascoff and Humphries are also vocal proponents of the benefits of big data, and the book is a forceful deconstructing of real estate myths using the immense data the company has accumulated since its founding in 2006.
In a Q&A with The Daily Beast, Rascoff and Humphries riff on the benefits of adjustable-rate mortgages, why you should build that extra bathroom, the future of real estate crowdfunding, why the real estate agent is here to stay, and more.
How did you become interested in real estate?
SR: I grew up in and around real estate. My mom was a Realtor when I was a kid. I ended up in the technology industry, though, and I started another company in the travel space called Hotwire. I sold that to Expedia, which is how I met Stan, who was running analytics at Expedia at the time. Then, in 2005, the management team from Expedia essentially left together to go and start Zillow. We started Zillow at that time because it seemed like one of the last categories of the Internet that hadn’t been impacted by the Internet revolution and by consumer empowerment. There were all these other verticals that had had a wave of consumer empowerment through access to data, but real estate was one of the last. So we took our revolutionary zeal to the real estate industry and opened up databases that were previously locked to consumers. That’s what Zillow was all about.
SH: Real estate’s always had a personal interest for me because I’ve ended up across my life to date moving quite often, so I’ve been in a lot of different renting and owning situations. You kind of get into real estate and learn what works and doesn’t by doing a lot of these transactions. But I would say my real passion in real estate since being at Zillow is from the data side. Real estate is this space that is really interesting to me because it is swimming in data, but people have not really done very much with that data until recently. That creates real opportunities for businesses like Zillow, where you’ve got a lot of data and a lot of runway to do a lot of interesting things. Typically you have industries where you don’t have a lot of data, and people don’t do a lot with it, or you have a lot of data and people have already done a lot with it. Think equity markets for ones that have a lot of data and people do a lot with it, and labor markets as being one where there is not as much data and therefore people haven’t done as many interesting things with it. But real estate is one where you have a lot of data. People just hadn’t done a lot with it.
So in Chapter 3, you kind of say, “Forget hipsters. There is a better way to figure out if a neighborhood is going to be gentrified.” What is the best way?
SH: That chapter was really about looking at a few different ways that are helpful for identifying the next hot neighborhood. One of the more intriguing things that we were able to show empirically there was what we call the halo effect, which is instead of focusing on location, location, location, you really want to focus on future location, future location, future location. As we said in the chapter, instead of moving to where the cool is, wait for the cool to come for you. The way to do that is to look at neighborhoods that are adjacent to the current hot areas, because over time they become hot in their own right. So there are good values if you can identify them now and wait for home values to rise in the future. We looked at neighborhoods that were more likely to undergo gentrification and the factor we found to be highly predictive was neighborhoods that have older homes in them with low home-ownership rates but are nearby to popular neighborhoods—and that may not be nearby in terms of walking, but nearby in terms of transit routes. Because if you think about what’s happened in Brooklyn, where those weren’t close to neighborhoods in Manhattan, but they were one rail stop away. Nobody was going to swim across the river to them—but they were on a rail access line, which made them very accessible, so they became gentrification targets.
The book isn’t just about when or how you should buy or sell a house, but if you should even consider. What are some things people should consider?
SR: We wrote the book to try to debunk myths and replace fiction with fact. One of the most common pieces of conventional wisdom in the real estate space is that you should always buy a home instead of rent. The data proves unequivocally that that’s not correct, that sometimes it’s more appropriate for people to rent than to buy. We analyze in the book what circumstances specify when one should rent instead of buy. The simple way to understand when to rent is to evaluate how long you are going to live in that property. I think people understand fundamentally that if you’re going to stay in a home for 30 years you should buy it, or for six months you should probably rent it. What we’ve done in the book is we’ve figured out by city when that crossover point is when you should switch from renting to buying. For instance, in New York the crossover point is five years. In other words, if you’re going to be in a home for less than five years you should probably rent, if longer, you should probably buy. But other parts of the country, like Detroit, the breakeven is about one year. So if you’re going to be in the home for a year, you would be better off buying it, not renting it.
A lot of the book is about taking on these myths—location, location, location; the worst house on the best street; and so on. Which myth is the most damaging and why?
SH: Probably the housing finance one since that’s where a lot of people spend more money than they should and generally over-rely on 30-year fixed-rate mortgages as opposed to utilizing an adjustable-rate mortgage. I think that’s at no time more true than after the recession, when adjustable-rate mortgages got a lot of the rap for what happened during the recession. Spencer and I, in the chapter, we talk about how we’ve got six mortgages between the two of us and because of the timing, we’ve been younger in our home-buying activity so we’ve always gotten adjusted-rate mortgages. Oftentimes I think I’m concerned when people get a 30-year-fixed rate mortgages and stay there for four years. Essentially each of those four years they’re overpaying on their mortgage—they’re paying an extra amount each month in order to have the right to stay there for 30 years if they wanted to, even though they have no intention of staying there for 30 years. So it’s buying that right to stay there for 30 years which gets really expensive. I think many people just do it reflexively as opposed to thinking about the mortgage product that fits their circumstances the best.
I think you call it the men’s trousers of real estate?
SH: Yeah, that’s right, an unexamined assumption everyone makes, but it’s not clear why everyone does that.
SR: This is an interesting one because the housing downturn swung the pendulum too far in the wrong direction. We threw the baby out with the bathwater when pundits decided after the housing downturn that the reason we had the bubble was because too many people had adjustable-rate mortgages. Stan and I are arguing that a more circumspect evaluation is in order. For a lot of people, an adjustable-rate mortgage is a great way to finance a purchase of a home. Again, it depends on how long you’re going to be in the property. If you’re going to be there for less than seven years, you should absolutely consider an adjustable-rate mortgage. If you got a 30-year fix for that five-year period, you’re going to pay a lot more per month to live in the same exact home, and the reason is that you’re basically buying an option for the right to stay in that home for 30 years. But if you know you’re going to be there less than seven, you could pay a lot less on that home with an adjustable-rate mortgage. It’s very shortsighted to just dismiss a whole class of mortgage finance because of the way the media reported on the downturn.
Home improvement is obviously a big part of American homeownership—and is ripe for spoof as people love/hate it. What should people keep in mind?
SH: We loved working on this chapter about the remodels. This is an area where there are all these hunches about what the best remodel is to do, and there are all these studies that are just based on surveys where they ask contractors what they think, but there was no empirical data to unravel any of this. So we were excited about doing this work. We were actually able to take thousands of remodels that people had told us about on Zillow, and over the nine years we’ve been in business, see those homes subsequently resell again, and then tease out the impact of that remodel on the sale price, controlling for a bunch of other stuff. The myth is that it’s best to do the kitchen remodel as best way to add value to your house, but we actually crunched the numbers and it’s the bathroom remodel that gives you the most money back. It’s a triumph of function over fashion. That everyone can use more working toilets, particularly when you have guests in town, but the tile color in your new kitchen may not necessarily be something the buyer will want.
Everyone reading this should be doing a jig if they live on a street named Lake or Sunset.
SH: Well Lake and Sunset are the two highest names, but generally anybody living on a name street instead of a number street should be happy because names have higher value than number, and Lake and Sunset kind of top that out. The reason they do so is that not only they are names but because they are naming a geographic feature that is associated with high value as well, namely being on a lake or having a good view of the sunset.
I was curious to get your take on the future of crowdfunding in real estate.
SR: I’ve actually looked at it a lot through my involvement in Tech Stars, which is a start-up incubator. I’ve actually helped some of these companies get started. One of them, Realty Mogul, has had pretty good success. I’ve been an informal adviser to them, and one of our directors, Gordon Stephenson, is an investor in Realty Mogul. I think it’s a really interesting idea as a way to tap new access to capital. I’m really worried about the cyclicality of it. The promise that crowdfunding provides is for a doctor or lawyer who wants to put part of her nest egg in residential or commercial real estate—it’s very difficult to do so because it’s illiquid and complicated—so if I could just put a couple thousand dollars at a time into these different projects, it might create a new asset class. The problem that I foresee with real estate crowdfunding is as soon as there is any kind of downturn at all, that kind of capital dries up really quickly, and these companies will have a hard time sustaining themselves. I’m cautious on the sector for that reason, even though some of them, like Realty Mogul, seem to be having success so far.
So in the book you write that you think the real estate agent is here to stay. Why do you think so?
SR: This is still an incredibly infrequent, emotional, and complex transaction. Most consumers will still seek the expert advice of a real estate agent. I think it’s somewhat akin to health care, where when you get sick you take your health care into your own hands, you research it on the web, you use your tablet, your smartphone, use Yahoo Health, use Wikipedia, WebMD to learn about your diseases—but you still go to the doctor. And the doctor helps you interpret all the crazy stuff on the Internet. It’s very similar in real estate. I think consumers have taken power into their own hands and are using services like Zillow to get lots of information. But then they’re still going to a professional to help them interpret it. Now, the role of the real estate agent, like the role of the doctor, has changed dramatically because of the Internet. It used to be that the real estate agent was just an information gatekeeper, somebody that had access to the secret database and provided that access to the consumer. No more. Now the consumer has access to the same information, and the role of the professional is to interpret it, to be a transaction consultant, to be a local expert, and to coach them through this complicated and infrequent transaction.
Your formula, the Zestimate, is an important part of the market, maybe even market-making. Do you worry about the responsibility that comes with such an influential perch over such an important part of the economy?
SH: I think we focus a lot on accuracy, because that’s what consumers care about. We are committed to always improving our models, and if you look at our history in terms of accuracy, you can see that right now we’ve got about 8 percent meeting absolute error, whereas when we launched back in 2006 we were about 14 percent. So we’ve gotten substantially more accurate in the models than when we launched. We care a lot about accuracy. I wouldn’t frame the question in terms of responsibility, of implying that the Zestimate can move the market, and I guess I would probably take issue with that characterization because what we find is that we have about half the sales that are above the Zestimate and about half that are below. I believe if we had a substantial influence in driving the markets we would find that no one would be willing to pay more than the Zestimate for a home. In fact, we don’t find that at all. I think it’s a really useful starting point for homeowners in terms of value. People who are buying and selling, they’re out in the market, they’re looking at these homes, several every day. They’ve got a lot of data points, and the idea that they’re not going to pay more than the Zestimate on a home, if they’re a buyer, or they’re not going to take less than the Zestimate if they’re a seller, I don’t think is borne out in the data.
It would appear, at least from the book, that you both travel a lot. Is there a place in the U.S. where you think particularly interesting things are happening in real estate?
SH: I’d probably give you a city pair. The pairing that is most interesting to me right now is probably Dallas versus San Francisco. Right now at Zillow on the econ side, we’re very focused on affordable rental housing and talking about how affordable rental housing is at crisis proportions in the U.S. So I’m interested in why places like Dallas have such an easier time producing affordable rental housing than places like San Francisco. We think it probably has a lot to do with local regulations. A place like Houston has almost no zoning and very light building codes, whereas kind of the opposite is true in San Francisco.
What do you hope people who pick up this book take away from it?
SH: We started with a list of 50 topics and myths that we thought were going to be interesting and boiled it down into what’s in the book now. In the selection of that we tried to find stuff from high policy-type chapters to insightful, practical tips for homeowners, buyers, sellers, or renters, to really fun interesting tidbits like the Lake versus Sunset part we talked about before. So we think there’s something for everybody. Our intent in writing the book was trying to move real estate, which has been a sector rife with myths and old advice and hunches. We wanted to move people’s thinking to fact. From folklore to fact that has actual data underneath. If anything, people reading this come away from it thinking, “There’s probably some data on this that I should go find to see if it’s true or not.” People would be better consumers if they thought that way.