When you’re evaluating a neighborhood or zip code in which to begin investing, it goes without saying that you need to gather and evaluate data to determine if that market aligns with your goals. If your goal is to focus on single-family homes with ARVs between $240K and $260K, but the typical home in the neighborhood you’re considering sells for closer to $300K, you need to know that before you sink precious marketing dollars into an area that doesn’t meet your predetermined parameters.
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Your instinct may be to run as many comps as you can and determine the average home value for the area. To do that, you add up the selling prices of a large number of properties, then you divide that sum by the number of properties in your set. For example, let’s say properties in the area have the following sale prices:
In all, the properties collectively sold for $3,300,000. When you divide that number by the number of properties in the set (11), you discover that the average sales price is $300,000. Unfortunately for you, that is much higher than the price range you’re targeting (between $240K and $260K), so you move on to another area of town and hope to find a better fit elsewhere.
In this case, you’ve missed out on countless potential properties because you put too much stock in the wrong measurement. You focused on the average home price when the median home price would have been a much better indicator of your future success.
So, what is the median home price, and why is it a better metric to consider? The median is found by taking that same list of properties and finding out which number is the middle-most number in the set. In other words, which number falls in the exact middle with half of the prices higher and half of the prices lower? In this case, the median price is Property #6 with a sale price of $248,000. Half of the properties sold for lower than $248K, and half sold for higher. Property #6 is right in the middle of the set and, incidentally, right in the middle of your target ARV. According to the median home price, this neighborhood is one that you should most definitely consider because it meets your target ARV goal.
If you take a closer look at the list of properties above, you can see why the average did not give you an accurate measurement of typical homes in that area. The last two properties on the list, #10 and #11, sold for significantly higher than the rest of the properties. They are atypical of the other sales prices, but because they were included in the set, they skewed the average up.
When you’re looking at comps, you don’t want those extreme cases to skew your numbers. You’re not concerned with exceptions to the norm. You want to focus on what’s typical. What’s most likely to happen in a given market? You’ll find that by determining the median.
One of the best things I’ve discovered about investing in real estate is that, for the most part, about 90% of the time we know exactly what’s going to happen. We know exactly the type of rehab we need to do. We know exactly when to put a property on the market. We know exactly what the property will sell for and how long it will take to sell. How? Because we don’t look at averages and focus on the median instead.
The median is where all the action is, so that’s where we choose to operate. And when you know what’s going on in the middle, you can more easily predict what will happen with your own investments.