Comments on "Price versus Fundamentals--From Bubbles to Distressed Markets".

The article "Price versus Fundamentals--From Bubbles to Distressed Markets" (Spring 2011) by Stephen F. Fanning, MAI, John A. Blazejack, MAI, and George R. Mann, MAI, has provoked considerable discussion in The Appraisal Journal. It is a year since it was published and still the comments come in. I want to add to this discussion.

One of the best things about appraisal is that we appraisers do what we do with a clear purpose. In most situations, we estimate market value. We define market value clearly. It is the most probable selling price. That is what our clients, usually lenders, ask us to estimate. Any time that I or anyone working with me on an assignment seems to get hazy about what we are trying to do, I try to bring us back to our basic purpose. It is to estimate market value, as it is defined. And simply, market value is the highest price that is offered for a property if we put a for-sale sign at the curb, get someone competent to show the property to the buyers who come along, and take the highest-priced offer that is made.

If our clients, usually lenders, want to know something else, like what is the fundamental value or what is the conservative value, or what is the stabilized average value over a long period, they should ask us that. Often clients ask me, "Aren't you trying to estimate a conservative value for the property?" The answer is "No" I am trying to estimate the most probable price. There is nothing conservative about that. The value estimate is not a place for us to express our emotions by indulging an urge to be conservative or anything else. It is a place to fulfill our stated purpose, which is displayed at length and prominently in the market value definition in every report.

But the authors of this article do have an excellent point. Their point, as I understand it, is that we often have important additional information to impart to our clients. The question is not how to shoehorn that information into the market value estimate. Doing that will only cause our clients to scratch their heads and wonder whether we are estimating market value as it is defined or whether we are instead allowing some other consideration to slip in and alter our clear purpose.

Often in appraisal, important information comes along that cannot be incorporated into the market value estimate but may be of use to our clients nevertheless. For example, when we are appraising a property and it is obvious that an abutter would benefit greatly (and probably pay extra) in buying the property--to get the parking or access that their property needs--we can alert our clients to that situation in a separate section of the report. We may not be able to estimate what the benefit is worth to the abutter, but we can alert our clients to the potential. To stay silent, in my opinion, is to miss an important opportunity to serve our clients.

If a property has an above-market lease that temporarily pumps up its value and the lease will expire in three years, then we need to alert our clients that the value of $1,000,000 that we are putting on the property is likely to decline to, say, $900,000 over the course of three years as the lease ages. We do not want to say that the value is $900,000 today simply because we want to be conservative. The way to report this information is to put it in a separate section of the report, probably after the final value estimate.

If a property earns a high percentage of its income from cell antennas and if we believe that cell antenna technology is about to be made obsolete by some new technology (but our knowledge is not shared generally by participants in the market), then the proper way to handle the situation would be to value the property by including the cell antenna income. Then, at a later point in the report, it would be appropriate to alert our clients that our advice is the cell antenna income is going to evaporate and so is a large part of the value of the property. That way, we are not letting our opinion (which is not shared by others in the market) interfere with our main task of estimating market value; but, we also are not keeping silent about it.

The same is true for fundamental value. If the authors develop a definition of what that is, if they find the way to measure it as a thing that is different from market value, and if they go on to report it, then they will do their clients an important service. Given the ups and downs of the market, it is something that we probably ought to do, whether our clients ask us to do it or not. To know the relationship between the present market value of a property and its stabilized value over time would likely help lenders and other clients a great deal. It would help them to know whether they are lending into a market that is over-or underpriced on a long-term basis. That section of the report could be called "Fundamental Value" or "Long-Term Stabilized Value." It would not be difficult, but no one asks us to do it.

I find that, for the most part, my clients want to know my estimate of market value. I get very little feedback about the extra information I include in the report about abutters or expiring above-market leases or risky sources of income. But because I have provided this information, I can sleep better. If someone comes along and asks me, why didn't you tell me about that situation with the abutter or the cell antennas or the bubble in the market, I can say, I did, it's right there in the report.

Eric Reenstierna, MAI

Cambridge, Massachusetts

Authors' Response

The primary purpose of the article was to start a discussion on the difference in appraisal of price verses value. Part of this discussion's purpose was to recognize the data overlap between the capital (transaction) market and the fundamental (space user) market because these two markets can vacillate at different rates at times, which means the appraised value conclusion can be compromised if the data is not correctly employed.

In his letter, Mr. Reenstierna recognizes this dichotomy of markets. He seems to agree with an author in the 1960s, Richard Ratcliff, who thought market value should be renamed to the most probable selling price, since most of the clients want to know what the property will sell for today.

We agree that if the client wants to know the answer to the price today question and not whether the current price is its underlying value or is sustainable, then the transaction price data, particularly buyer motivation, becomes paramount in the appraisal and not the longer-term fundamental value. Thus, as the article notes, we have recognized the difference in the data and applied it properly to the value question of the client.

Likewise, Mr. Reenstierna points out that if during the appraisal we find the underlying fundamentals do not support the sustainability of the current, most-probable selling price, then we probably will want to let the client know this also.

Mr. Reenstierna has taken, along with other responders to the article, the next step in tying probable selling price to what is meant by market value. We applaud this discussion even though our article did not get into whether the most probable selling price is the same as what is typically defined as market value. Many will disagree and state that market value is not the same as the current most probable selling price because market value is unaffected by emotional highs and lows in the market, and market value represents the prudent actions of willing buyers and sellers that are equally and fully informed about the market in which they participate. Under this viewpoint, buyers that do not seem to be informed about data that tells of future market expectations would be candidates for elimination from a market value appraisal.

Maybe out of this response and others we can see the next step in this discussion, with articles on how we are to apply the variations in the two markets in the market value conclusions.

Stephen E Fanning, MAI

Denton, Texas

John A. Blazejack, MAI

Miami, Florida

George R. Mann, MAI

Cincinnati, Ohio