Market Value in the Age of Big Data Infallibility
This isn’t a topic I generally spend a lot of time on. Partly because I am ‘uneducated’ (sans college degree) and partly because it bores people to death. Despite this I ask you to bear with me.
It all started while I was listening to my favorite local radio stock market gurus on the way to wash my car. An expert from the firm of Dewey Fleecem & Howe (DF&H), or some such firm, was explaining the current stock market instability in a historical context.
Since our inception as a nation, DF&H reports that we have had 45 (or was it 48?) recessions. On average once every five to five and a half years. Let’s double check: 45 x 5 = 225 yrs; 2016-1776 = 240; okay close enough. Any nominal difference gets charged to unreconciled accounts receivables anyway. Okay, the last part was unfair.
Since World War Two, DF&H reports that we have had forty (40) significant stock market corrections anticipating recessions or triggered by fear of recession. Of those, only 20 were proven to be correct.
In other words, half the time when ‘The market’ significantly corrected itself, it didn’t know what the hell it was doing. Let’s double check: 20 x 5 = 100; or 20 x 5.5 = 110. 2016 – 1945 = 71 years; okay after all, we ARE talking about Wall Street accountants and financial experts.
The market is far less than perfect…
Aside from math, the above would make the highest priced accounting and legal firms blush with envy. The expert from DF&H was really pointing out that “The Market” is far less than perfect, OR orderly. Yet that is what ‘it’s’ definition of Fair Value or Fair Market Value (FMV) is predicated on.
Think about it. Historical accuracy of only 50%! Even AVMs usually do better than that.
I have to confess. My mind was racing far ahead of the host’s presentation at this point. I couldn’t resist asking myself WHY EVERY SINGLE PRESIDENT SINCE Bush 41, (even before?), selected Treasury Secretary’s from Wall Street? Specifically Goldman and Sachs part of Wall Street?
Never fear Michael! DF&H was about to make all things clear…sort of.
You see, Wall Street is itself a Leading Indicator of the economy. “Say what!?”
That’s right. A leading indicator not as in a popular indicator, but as opposed to Coincident Indicators and Lagging Indicators. (Darn I wish I had me one of them degree thingies about this point!)
I understand English, but what the heck are they talking about? Thank goodness he was communicating for the benefit of the great masses and explained it so that even I could understand it.
Take construction. The pulling of permits is a leading indicator. It means housing starts are expected to increase in the future. Hence it’s a leading indicator. Housing starts themselves are houses currently being built, or a Coincident Indicator. And lastly, new home sales are something that is past, or you guessed it, a Lagging Indicator.
Okay, I think I am beginning to understand. Wall Street is in the fortune telling business (or misfortune telling business for some).
This explains, partly at least, why accountants will ‘value’ something based on the return that it is supposed to get, rather than the return it DOES get. According to Wall Street, a ‘market rent’ is not a rent that is actually being received or even probable in a given market. It is a rent that is necessary in order to provide the rate of return that is “required” by the investor.
By now real estate appraisers are either pulling their hair out, or like my old appraiser buddies at Treasury/IRS/LB&I, are calling it The Blue Smoke and Chicken Bones Approach to valuation.
In 1801 or even 1860, the London Exchange did not move as fast as today. News, and profits, travelled by ship or caravan. Investors had time to rationally consider risks and potential returns. They did not say “I demand a 13.735% ROI”. But instead asked “Am I likely to make a profit worth the risk?” You see they weren’t hindered by “Big Data” back then, or required to make ‘informed decisions’ in nano-seconds. THEY were still allowed to rely on common sense and prudent judgement. It wasn’t until the late 1800’s to 1920’s that high speed information, (ticker tape), created a requirement to make decisions based on little or no information, more rapidly.
Value, as a concept still meant something.
After World War Two, the earth shrunk and information travelled at the speed of sound. Decisions had to be made much quicker, though still not in nano seconds. Executives DID have time to consider decisions. “Value” as a defined concept still held.
Somewhere along the way accounting professionals called ‘Economists’ realized that they had an abysmal record for accuracy. So they created new economic theories: “accounting principles”, discounts, control premiums, magical algebraic formulae’s, and of course unpredictable variables, to explain why they were always 20/20 in hindsight, but less than 50/100 in foresight.
Now they can PROVE that a 49% undivided fractional interest is only worth 24.5% of the whole, (for tax purposes). OR that if coupled with just 1.00001% more interest it could be worth 75% more or less of the whole, (for buy out of controlling interests).
Unless of course someone like IRS challenges the findings, in which case the “value” is renegotiated.
What a concept! If real estate appraisers were allowed to renegotiate our appraised values AFTER loans go bad, we’d NEVER get in trouble with regulators!
Concurrent with the above, modern technology created a ‘need’ for logic based, sound business decisions to be made and executed faster than a human could articulate them. Trading algorithms based on the economists brilliant historical record of accuracy & the infallibility of Big Data were created so that hundreds of millions of dollars in any flavor asset could be instantly traded as soon as specific market triggers were identified by their software. “Practically” foolproof!
Now they want to bring the same expertise to real estate appraisal, which they have already demeaned by renaming it ‘valuation’.
This software trading market is considered to be an orderly and informed market operated in the best interests of its principals.
THIS is the market in which the International Valuation Standards Council (IVSC) and The Appraisal Foundation (TAF) expect us to adopt THEIR standards of value for real estate appraisal!
They ignore that our subject’s market value is a lagging indicator, or at best a coincident indicator.
For those that don’t find this quite as exciting as I do, it might be a good idea to join the American Guild of Appraisers (AGA) and at least know that someone is watching out for you, or trying to. Contact Jan Bellas for more information at (301) 220-4100 or Mike Ford at (714) 366 9404.
For those others that just can’t get enough, check this link and this one. These last two links are best read while listening to the strains of “Kumbaya My Lord, Kumbaya” quietly playing in the background.