One of the most common sayings that one may hear surrounding Real Estate is to, “buy the worst house in the best neighborhood”. This idea has been passed down for so long that nearly everyone has heard it and takes it as fact. It just makes sense, right? Given that a house is surrounded by homes which are priced higher, those higher values will naturally pull the lower ones up. Given that buying a home is one of the largest investments that anyone will make in their lifetime, shouldn't we be making sure that this logic is sound?
When analyzing this thought it is important to ask a few questions, before we look into the statistics, to see if it does hold up logically.
Could this house be valued lower for a reason?
If this saying were true, why are some home values so much less than others in the same neighborhood?
Assuming this is accurate, why would anyone buy a home that isn’t the cheapest in a neighborhood?
By asking questions like these it quickly becomes obvious that this sentiment of buying the worst home may not be accurate, contrary to popular belief.
When we actually dive into the statistics it turns out that those following this mantra could actually be at a detriment. In order to look at this data, the cheapest 10 percent of homes in a given zip code were assessed. The idea is that if we look at these homes and see how they appreciate compared to the other 90 percent, we will be able to see what the actual market says in relation to this proverb. After this is done we actually find that the bottom 10 percent typically doesn’t do better or worse than the remainder of the market, with 2 main exceptions. This means that while there wasn’t a greater return, there also wasn’t a greater cost associated with these homes. However, the exceptions to this rule are quite interesting.
The first exception is that the more expensive the neighborhood, in relation to others in a given area, the worse off the lower valued home will be. Perhaps the best way to illustrate this is to say you buy 2 homes at the same time, with both values being in the bottom 10 percent of their respective neighborhoods. The first house is in a neighborhood with average values of a hundred thousand dollars, and the second neighborhood has average values of a million dollars. In the first neighborhood the average values continued to increase; but the home you bought, in the bottom 10 percent, actually continued to lag behind at 5 percentage points. Meanwhile, a similar set of events occurred in the second neighborhood. The difference is that in this million dollar neighborhood, your home in the bottom 10 percent actually lagged behind home values by 25 percent. The theory behind this is that those people who buy in more expensive areas are less interested in getting a “deal” and more interested in finding the perfect home.
The second exception comes when the home is in “hot” neighborhood. This “hot” neighborhood is characterized by 5 years of appreciation that is higher than the market average. If one were to buy the worst home in this neighborhood, in the first few years of this boom, then they would expect to see a greater return than the average as well. The worst home could have its value improved by this increase in demand which could close the gap between its price vs the others in the neighborhood. The problem which this comes from the fact that it is so difficult to spot these “hot” neighborhoods. Even more than this, there are many neighborhoods which look like they are beginning this trend, just to fall back off before the benefit actually comes to fruition. In this instance it is at a major detriment to buy in that neighborhood.
So with all of this, what is the best way to ensure that your home’s value will appreciate? The safest bet is to simply buy a decent house, in the RIGHT neighborhood, and at the price point where you can afford. Unfortunately, some of these sayings simply don’t hold up when they are looked at in the correct lighting. This happens to be one of those sayings. The hard and fast rule of “buy the worst house in the best neighborhood” not only doesn’t hold up according to the stats but they show that the nicer the neighborhood, the worse off you would be to buy this kind of home.