The “Recency Effect” and Housing Prices

“Housing is cheap.” This is according to Radar Logic, a watchdog of this market. The housing price-to-rent ratio is at one, which makes buying a house reasonable (please see When It Makes Sense to Buy a Home to Rent for an explanation of this ratio). This is equal to 2001 levels. The 30-year conventional mortgage is lower than 4.30%. There is a huge inventory so selection if good.

Still, despite all of these factors that make buying real estate extremely attractive right now, people just aren’t buying houses.

One reason is human nature. Our species uses something called the “recency effect” when the pros and cons of a decision are weighted. Recent events are given more importance than the past. What is fresh in the human mind takes front stage to older information.

Since the housing market has been failing, there is a human tendency to think that it will continue in that direction. Thereby a good number of people won’t act on the information that housing prices and interest rates are low, even though it would work to their advantage.

Some bestselling authors say that the difference between a person who thinks like a millionaire and a person who thinks like a poor person is that the former looks at crisis as opportunity. The latter sees it only as a disaster and calamity. This has something to do with why one has the potential to make money and the other doesn’t. I believe it also relates to awareness of the “recency effect” and the ability to confront it and go forward with the knowledge that what has been happening won’t continue forever.

Though housing prices may not reach their former heights, they will go up until it is more expensive to own a home than rent. That means profits for those who can challenge their inner “recency effect” and make a bet that things likely will get better even though they have been bad.

For Further Reading:

When It Makes Sense to Buy a Home to Rent
Real Estate: Buy, Sell or Hold?