Are Homeowners in Denial About Realty Value?

I like to think of myself as an optimist. My glass is often more than half full. I bounce back quickly from setbacks, and I usually expect things will work out for the best.

But according to a bunch of new survey data, I'm hardly as optimistic as the average American, at least when it comes to the value of my house. According to the latest figures from the S&P Case-Shiller index, the average U.S. home has lost about 16 percent of its value in the last year. Things may not be quite that bad in my neighborhood, but based on everything I see around me—local newspaper headlines, the asking prices of homes near mine, chatter I hear from local brokers—I assume my house has fallen by more than 10 percent since the housing market shifted from boom to bust over the past couple of years. Even former Federal Reserve Chairman Alan Greenspan agrees. In Thursday's Wall Street Journal, he cautioned "that prices could continue to drift lower through 2009 and beyond."

But amid these grim headlines, other Americans seem strikingly upbeat about the value of their own homes. In a survey released last week by the real estate Web site, a "Homeowner Confidence Survey" of 1,351 U.S. homeowners revealed that 62 percent of them believe their home value has increased or stayed the same in the last year. Three-quarters of them believe their home will continue to increase in value or hold steady in the next six months. And according to a different survey commissioned last month by Move Inc., the company that runs, 44 percent of Americans believe the housing market will improve once a new president is inaugurated next January.

Let's state it plainly: most of the people in the Zillow survey are wrong, and the ones who think a new president can fix the housing market are engaging in some pretty wishful thinking, too.

Although Zillow's "Zestimates" of home value are notoriously inaccurate, the company estimates that 77 percent of U.S. homes fell in value last year, and by most accounts, the ongoing housing bust will continue to take a toll on home values for months to come. "We attribute this gap [between homeowners' perceptions and reality] to a combination of inattention and a fair bit of denial that causes people to believe their home is insulated from the woes of the market that affect others, but not them," says Stan Humphries, Zillow's vice president of data and analytics.

But how, exactly, could so many people be living in such a state of denial? Amid a glut of data that suggest home values are falling, why do so many people believe their own home is gaining value?

Without even looking at the surveys, Terrance Odean, a behavioral economist at University of California at Berkeley, suggested NEWSWEEK look at the survey methodology for an answer. Odean guessed these surveys might involve online, voluntary surveys, not the scientific telephone queries that collect information from a representative sample of the population (and which cost companies far more money to commission than cheapo Internet polls). In fact, he's right: Both the Move and Zillow surveys are done by Harris Interactive, and both surveys rely on voluntary responses from Web surfers. Odean guesses that creates some bias in the sample. "The neighborhoods hardest hit by the mortgage/credit crisis are working class and lower middle class, [and] a lower percentage of the households in these neighborhoods probably have Internet access," he says. Odean also suggests people whose homes are on the brink of foreclosure may be less enthusiastic about volunteering for a survey about home values, further skewing the sample.

Over at the National Association of Realtors, chief economist Lawrence Yun offers several reasons on his blog for this disconnect between national housing prices and owners' perceptions of their home value. As you'd expect from a trade group that's often criticized for spinning a too-rosy scenario when it comes to the housing market, Yun suggests the media are overly fixated on the Case-Shiller index, which he says focuses too much on metro areas and ignores smaller cities and rural areas, where values are holding up better. He also says that since fewer than 10 percent of Americans buy or sell a home in a year, most of us have no real basis for knowing what our home is really worth. Finally, he says that the biggest declines are concentrated in neighborhoods with many homes financed with sub-mortgages, which finance only 9 percent of U.S. homes; in other neighborhoods, he suggests, values may be holding up just fine. "So it is very reasonable that the majority of homeowners, as stated in the survey, have not witnessed a decline in their home value," Yun writes.

Economist Karl Case, a professor at Wellesley College and co-namesake of the Case-Shiller Index, offers up historical evidence that homeowners are consistently optimistic about the value of their property. Each year since 1988, he's sent out questionnaires to 2,000 recent homebuyers in four U.S. cities. Year-in and year-out, strong majorities tell him that housing values have gone up or are likely to do so in the near future. Even today, with housing values well off their peak, more than 15 percent of respondents told surveyors they see "little or no risk in buying a house today." When Case's survey asks buyers how much they expect their home to gain in value over the next 10 years, the average respondent says he expects 15 percent annual appreciation—meaning that if they own a $100,000 house today, it will be worth $260,000 in 10 years.

Like other realists, Case finds some of these answers curious. "It's hard for me to imagine anyone believing the value of their house is going to go up in the next year, but apparently they do," he says. He attributes part of this rosy view to history. Until recently, national home prices had never fallen year-over-year, and in many places (including California), homeowners made out wonderfully as home prices rose. "They've got 30 years of data that say if you bought a house, you did really well," Case says, so people may assume that will hold true in the future, too.

Case makes another good point: rather than make fun of these people for their irrational exuberance, we should probably be thanking them. "In a way it's stabilizing," he says. "Despite the fact that we have all these auction sales and foreclosures and gloom and doom, there are still 4.8 million existing home sales a year." In other words, thank goodness there are still people who believe buying a house today is a good investment--or else the housing market might be worse than it already is.

Daniel McGinn is a national correspondent at NEWSWEEK and the author of "HOUSE LUST: Americas Obsession with our Homes."