This Super-Common Real Estate Tip is Actually Terrible Advice
We’ve all heard it. If you’re looking to buy, you should always go for the worst house in the best neighborhood. But have many of us ever stopped to question that conventional wisdom? I thought I was bucking convention when I bought one of the lowest priced houses in a neighborhood that many locals steer clear of (and to my eternal frustration that Uber drivers tell my Airbnb guests they should avoid) — but is it true?
The authors of Zillow Talk: The New Rules of Real Estate, Spencer Rascoff and Stan Humphries, confronted that old real estate dictate. And guess what: it’s actually terrible advice!
I read their book so you don’t have to (although it’s a great read!), and talked with Zillow‘s senior economist Aaron Terrazas, who walked me through their research and findings. (Let me preface this by saying I am not a real estate expert and do not play one on the internet. I’m sharing what I learned and my own experience here. Your mileage may vary.)
So, should you buy the worst house in the best neighborhood?
Short answer: No.
It seems the adage is grounded in our love for a bargain. “Everyone is looking for a deal,” Terrazas says, and “if you look back there was this sense that the cheapest home in the nice neighborhood was a good deal… that it was a back door entry to a ritzy area.” And sure, he acknowledges, if you want to rub elbows with richer people, or access to richer neighborhood amenities like parks and schools outweighs your desire to see your home value grow, that may give you cause to buy a cheap home in a “good” neighborhood.
However, if you want your home value to go gangbusters in the coming years, their data says that’s not the way to go.
How do they know?
Zillow was founded by a couple of house-hunting tech folks who were frustrated with not having access to data that realtors did, Terrazas explained. And do they ever have their hands on data now! So they dug into it.
They ranked by price all the neighborhoods in a given metro area across the country, Terrazas says, then took the bottom ten percent of homes and compared them to the overall trend in their respective neighborhoods.
The book breaks it down:
“If the adage were true, the bottom 10 percent of houses would need to perform better than the more expensive homes in their neighborhood. Faster appreciation would indicate that buying the cheapest house in the best neighborhood is a strategy that really does pays off.
“But—alas—it doesn’t. Instead, we found that only rarely does the bottom 10 percent outperform the top 90 percent of houses in a ZIP code”
What happened is that bottom 10 percent appreciated just in line with others in the neighborhood, Terrazas says. Ok, well, that’s not good or bad.
“The kicker comes,” he says, “when you compare these pricey neighborhoods to other neighborhoods in a metro area. Those pricey areas tend to under-perform the metro as a whole.”
Or, as the book says,
“Buying the worst house in the best neighborhood can actually backfire. That’s because the more affluent a neighborhood is, relative to its greater metropolitan area, the worse the homes in its bottom 10 percent tend to perform. In short, the nicer the neighborhood, the bigger the myth!”
There’s better advice:
Here’s what you should do if you want a home that’s going to increase more rapidly in value: Tweak the old saying, and buy the cheapest house in the hottest neighborhood, where, says the book:
“…homes tend to appreciate in value even more quickly than the homes in the premier neighborhood. Once again, it’s actually a better real estate strategy to buy homes outside of the premier neighborhood. … So, if you’re a savvy home buyer, you might want to move into one of the less developed neighborhoods surrounding that awesome part of town. You can pretty safely bet that, in time, you’ll enjoy both a higher home value and a neighborhood with many of the same features that you once had to travel for. In short, if you have a little patience, you can wait for the cool to come to you.”
But what makes a hot neighborhood? By the math, it’s one where, historically, home values are below that of the metro as a whole, but over the last five years has seen appreciation above the metro median. And how do you find that information? “The obvious place is Zillow,” Terrazas says (he is their senior economist), but you can also talk with local real estate professionals.
If you don’t mind plowing through some mega spreadsheets, it’s all at zillow.com/data. I found my neighborhood data with help from Terrazas. (I’m a writer here, not a statistician!)
- The first option on the page is Data Type – choose ZHVI (that’s the “Zillow Home Value Index”) from the dropdown.
- Next is Geography – pick Neighborhood here.
- Download the giant spreadsheet of every neighborhood in the United States and filter for your metro area (you need some Excel skills here).
- We’re zeroing in on the 5 year column and are looking for a number that’s above the metro area’s median (halfway point). To my delight, mine was in the top third, well above the median, and not far behind my previous neighborhood.
Of course you have to be in the hot neighborhood early enough to nab a bargain, so that’s where the tricky science (or art?) of identifying what will be hot next comes in.
Consider the halo effect, Terrazas says, and look for the lower-priced neighborhoods adjacent to the hot ones. Those coffee shops and galleries and such will start spilling over into more affordable areas as prices there rise. (I can vouch for that – we sold our old home in a neighborhood that had become hot quite to our surprise and moved closer to downtown to our current, much more affordable-per-square-foot one, and the restaurants are starting to come.) Proximity to the city center is also important, but there were some other interesting findings.
“Forget about hipsters,” the book says. “Above all, the greatest indicator for a neighborhood that would one day strongly appreciate in value was the age of its housing stock. The older the average home is, the more likely a given neighborhood will see strong appreciation.”
What, why? This is where I’m really getting excited, sitting here in my 1890 home. “Older homes tend to require greater investment,” Terrazas explains, (you can say that again!) “and that’s why they are more affordable. It’s an opportunity that requires some investment but that will pay off over longer term.” (That said, they may not be the bargain they used to be, he says, as fixer uppers aren’t as discounted as heavily these days.)
The same can be true when it comes to neighborhoods with a higher renter population; “owners of these homes don’t necessarily invest in or maintain these homes as much,” he says, so you’re more likely to find an affordable fixer-upper when they come up for sale.
If a great return is what you’re looking for, forget the conventional wisdom, according to these experts. The cheapest house in the best neighborhood isn’t the way to go. Instead, buy the cheapest house in the hottest neighborhood – and start by looking in an older neighborhood close to the action.
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