While it’s not necessary for the average home buyer to become a real estate investment calculation expert, there are a few ways to look at a local real estate market and get an idea or hint as to how it’s about to move. In other words, there are ways to get a better idea of future market trends based on current and past activity. One of those is “absorption rate.” Appraisers use absorption rate, especially under new appraisal rules is designed to provide more accurate valuation of homes. They use this calculation to determine if a market is experiencing increasing, static or declining prices. With today’s stricter lending requirements, it can hurt an entire area if it is determined that prices are declining. Lenders will want more for down payments to offset risk, or they’ll just not lend.
What is absorption rate? – Basically, it’s just the rate at which listings are being sold. A real estate professional can help you with this, and some of the more progressive and tech-savvy of them are even posting these on their websites. How is it calculated?
- First, the number of homes sold over a period, usually the last year (but could be shorter in faster markets), is divided by 12 to get the number of homes sold monthly on average.
- Then the current number of listed homes is divided by that monthly number to give us the number of months in inventory. So, if 1200 homes sold in a year, that would be 100 each month. If there are currently 700 listings, we would have a 7 month inventory and an absorption rate currently of 100/month.
Really, it’s more of a look at the number of months in inventory as compared to recent history. If we did this calculation every month, and we see that the number of months of inventory has been deceasing every month for the last three, then it could be good news, signaling fewer listings coming on the market and more sales. This reduces inventory, and that usually is a good sign for prices.