Real Estate Pricing Methods

           To determine if “micro markets” exist in the real estate market, I must design and implement an experiment that compares price performance over time for several different property types. The first step of this is to determine how I will track prices for each property type I am comparing. This will be done through a price index. For years, price indices have been used to track the market performance and real estate prices. There are two main methods of creating a price index.

The Hedonic Model  

The hedonic model is a method of real estate valuation that attempts to account for heterogeneity by appraising a property per the value of the various attributes/characteristics. To do this, it considers a house simply as a collection of multiple price-influencing characteristics. The house value can then be determined by the summed value of all characteristics.

Despite being commonly used, the hedonic model has many criticisms. To start, a house can be defined by infinite characteristics. Thus, it can be difficult to determine which characteristics to consider and to accurately value them. Inaccurate regression techniques can also result in overestimation or underestimation of a characteristic’s value, making insignificant variables become significant and vice versa.

The Repeat Sales Method   

Unlike the hedonic model, the repeat sales method only uses properties with multiple sales to track the market. Heterogeneity is controlled for by looking at changes in prices for the same houses over time. This eliminates the need for data on multiple variables and complicated regression techniques, making it easier than the hedonic model.  

A criticism of the repeat sales method is the limited sample size. Since only properties with multiple sales are being considered, it is important to consider the accuracy of this process. Multiple researchers have criticized it for ignoring too much data and creating a large amount of sample selection bias.

So, what process will I be using for my study? I have decided to use the repeat sales method for two reasons. First, this method is much easier than the hedonic model. The hedonic model requires extensive knowledge of regression techniques as well as detailed data on a multitude of house characteristics. With the time and knowledge I currently have, using this model would be impractical. Rather, the repeat sales method requires less data and less regression techniques.

Secondly, the repeat sales method is comparable to the hedonic model in regards to its accuracy in portraying price dynamics. While both models have their difficulties and criticisms, they are still used today and supported by researchers around the world. Moreover, the differences in accuracy between the two is more in the type of bias they cause, not the amount. Recognizing this, I have decided to use the repeat sales method for my study.

               Over the next few days, I will be collecting sales data and begin organizing it to analyze. Sometime this week, I will have another post with specific details of this data and my completed methods.