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Sunday, July 4, 2010
Valuing Homes With Price-to-Rent Ratios
From CNN/Time. I see Zillow's revamped their site and no longer shows price-per-square foot.
"...it takes the median purchase price of a home in a market and divides it by the annual rental payments generated on a similar property."
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"In general, a low P/R ratio indicates home prices in an area are cheap relative to renting while a ratio above 20 indicates renting is the more affordable way to go."
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"By digging a little deeper into the numbers homebuyers can gain even more insight. Over long periods of time, housing will follow certain valuation patterns similar to the way stocks and bonds do, says Miron. This means that no matter how far out of whack home prices get in any particular cycle, the P/R ratio will usually return to historic averages. The speed of the cycle will depend on such factors as interest rates, unemployment levels, population growth, housing supply levels, household income, foreclosures and rental rates, says Miron.
As a result, it's a good idea to look at historic averages — and how far the current ratio deviates from that level — to get the big picture on how out of whack a market may be at any particular time. In general, P/R ratios that exceed the historic average by more than 20% are markets that are poised to see significant home price declines or rental rate increases or both, says Miron."
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"I think the ratio is a great rough and dirty way to compare the markets in terms of cost of ownership versus cost of renting," says Tara-Nicholle Nelson, an attorney, real estate broker, and consumer educator at real estate website Trulia.com. However, she noted there are many other reasons buyers might want to purchase a home even if the ratio isn't at its historic low, such as the tax advantages of owning a home or low interest rates giving them an entry point into a market that is normally out of reach.
The price-to-rent ratio data is not freely available but a major realtor will likely have access to the data for your area."
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