Liz: Well, hey, Ben, remember we were talking about second price auctions?
Ben: Yeah, it's my favorite kind of auction.
Liz: Why is that
Ben: Because of the the limited requirement of theory of mind of participants, it's very easy to find the Nash equilibrium.
Liz: So in other words, you don't have to think about what other people are thinking.
Ben: Yeah, though, we talked about that last time.
Liz: So for those of you who are just tuning in a second price auction is the way that eBay works. Where, let's say somebody bids $50 a second person bids $100. The winner is the person who bid $100. But they only pay $51.
Ben: Yeah, so in theory as the number of bidders goes to infinity, it's—
Liz: Alright. No more theory, guys. This is gonna be an applied podcast. Okay. So last time, we talked about second price auctions in the realm of eBay. You're not likely to be paying that much money for anything on eBay. But what if we took the second price auction idea, and applied it to buying a house?
Ben: Oh, man, let's, let's ask a real estate agent and find out.
Jared Fraser: Yeah, my name is Jared Fraser. I'm a real estate agent, a managing broker in the Seattle area. Been in real estate for about 15 years now.
Ben: And while we're introducing ourselves, I'm Ben Klemens,
Liz: and I'm Liz Landau.
Ben: and this
Both: Pod, Paper, Scissors.
Liz: Yeah, so I want to know about all of the things that go into buying a home that aren't about the price. So what I've learned from Jared is that it's not just that the highest bid wins. Like you might say, in theory,
Ben: Dude, I never said that.
Jared: So there's ways to finesse the contract, those little bit of terms do matter, to make your buyer stand out. Specifically escalation clauses, which we'll get into, there's ways to tweak those and why different numbers have different meanings on them.
Liz Landau 2:10 So I also know a couple of people who bought homes, and they say that they actually wrote letters to the previous owners explaining why they wanted that home in particular. And that like, personally, it would mean a lot to them. I actually have one friend who even did that when the home wasn't even on the market, he just wanted to live in a particular building. He wanted a particular unit on a particular side of the building. He wrote to everybody in this particular stack in the condo building, that he was interested in buying, and somebody actually was interested in selling, so they never even involved REALTORs.
Ben: That's pretty cool. That's kind of like a nice story. But in that case, you had people who weren't thinking about selling, and they, you know, were convinced that they should sell. But we also hear these stories of people who, they're bidding on a house, it's on the market, and they write a letter, do those work? And Jared had two points. First, no.
Jared Speaker 3:15 I've received letters on listings of mine. And, the letter did not beat out somebody willing to pay $10,000 more for a home.
Ben: But the bigger problem is, they're skirting illegal.
Jared: So there are fair housing regulations that prohibit familial status, family status, religion, ethnicity, you know, all those critical elements to—should not come into factor, when a seller is making a decision.
Liz: There's a reason to be concerned when sellers would prefer certain buyers over others, it can be racism. And in fact, there's something called "redlining", where here in the US, there were districts where black people lived. And in those districts, it was harder to get a loan.
Ben: Yeah, it was official policy by government agencies and the National Association of REALTORs to offer different loan terms, to count them as more of a credit risk in certain neighborhoods. And this is no conspiracy theory, the maps are available, and you can actually see red lines drawn around certain neighborhoods. Yeah, I read an article the other day about steering. Instead of drawing a red line and saying nobody of this race can be in this neighborhood, the real estate agents, when a customer of one race shows up, they whould kind of show them houses in one area. And when somebody of another race shows up, they kind of show them a different area.
Liz: So that's what was happening in the 50s?
Ben: Uh, that was in 2019.
Liz: Wow, I can't believe that's still going on.
Ben: But yeah, there were other pretty cool points that, somewhat happier points that Jared talked about.
Liz: Can you be more specific than that [laughs]
Ben: [laughter] Yeah, Liz, you were pretty entertained by the earnest money thing, right?
Liz: Yeah. So as somebody who's never bought a house and has never owned anything more expensive than a car—buy used cars, y'all—I was very interested to learn about something called earnest money.
Jared: It's not an additional cost, it's just money for the transaction that's paid upfront. And then should that buyer not be able to close the transaction and not be able to exit from from any contingencies, they would forfeit that money to the seller.
Ben: So yeah, Liz, what is says to me is that real world contracts are sort of squishy.
Liz: Oh, yeah. Like when you almost bought a house that had a giant oil tank in the back?
Ben: Yeah. Like that. Though that was squishy in a different way, I guess. So yeah, we called that house the BP, because it had an oil spill in the back. So they are—Liz, are you familiar with large underground storage tanks?
Liz: Oh, LUST. I'm only familiar with large overground...vaults of energy.
Ben: [Ben laughs] That's good. That's good. I appreciate that, we talked about this before, and you come up with a different acronym every time.
Liz: It last longer.
Ben 6:17 So here's here's the problem. So throughout the Mid Atlantic US, and probably in a lot, a lot of other places, houses were run by heating oil. And so a big oil tanker would drive up to your house and take one of those things, it looks just like what they put into your car. And they fill your house. So like eventually, you know, the people switch over to electric or natural gas via pipelines. And so they just leave the tank in back, and it gets rained on and eventually, it starts to leak a little bit. And there are entire neighborhoods where everybody had either LUST, or like—I'm not making up the acronym LUST—had a LUST or LOVE. Yeah, so anyway, so the BP, I actually had a contract for the house, I bought the house, but the contingency was that they had to—and we'll talk a lot about contingencies later—the contingency was they had to remediate the oil spill in the backyard. And the bank delayed for six months. And then like pretty much at six months, they just said, screw it. We're not going to sell the house to you.
Liz: To think, Ben, we could be recording this podcast in an oil tank right now.
Ben: Oh, the echoes, the echoes, it wouldn't work out. Anyway. Yeah. So that that happened. And earlier I talked about buying The Partisan, the house that leans. And yeah, it was after the BP I was like, well, you know, I'm not going to get a house that doesn't have issues.
Liz: That really sucks. Ben, I mean, that is not legal. You shouldn't be able to break contracts. If you had lawyered up, maybe you could have forced the issue or gotten the money. But of course, lawyering costs money.
Ben: Yeah, it costs money. And it takes time, you know, when you buy a house, you want to do it within weeks or, you know, months at most, and lawyering up and taking them to court would take years. And Liz, I will bet, I don't have the contract in front of me, but I can guarantee you that there's a clause somewhere in there that yes, I have the right to sue them. I could do all of this. But that brings us back to the earnest money. If somebody actually puts money on the table and says, you know, here's $30,000, and if I leave, you can keep it, then yeah, we don't need to spend years and years going over that. But again, the letter of the contract, it shouldn't be necessary.
Liz: Yeah. Except that that's only protecting the seller, not the buyer.
Ben: Yeah, I got screwed.
Liz: I'm sorry.
Ben: The bank is never gonna put up earnest money.
Liz Landau 8:41 But here's something else I learned about escalation clauses. How do you feel about escalation clauses Ben?
Ben: Right, these are my favorite. These are the second price auction, the seller lists at a price. And the price is basically the opening bid, the reservation price. Typically, what they're saying is we won't accept an offer less than whatever number. We'll just stay in the house. Right, so we have the minimum bid, and then buyers are going to bid it up. And the escalation clauses do this in the format of the second price auction. You put in a bid that says I am going to pay up to I don't know in the housing market of the present day, like a million dollars. But I'm going to start at your asking price. And I'm going to pay whatever this the second highest bidder bid plus 1000 or 2000, or something. So in theory, yeah, you have a good contract. And you could do the eBay auction just fine. But in the trenches of real estate warfare, it doesn't quite work out that way.
Jared: But now the seller sees you are willing to pay 20, 30, $40,000 more for this home. There's nothing stopping the seller with escalation clause or not, there's nothing stopping the seller saying Well, why don't you just give me half of that, and we'll call it a deal.
Liz: Oh, we have to talk about inspections.
Ben: Oh, yeah, the inspections like the leak at the BP. And yeah, that really happened, right. So this this is, falls under the umbrella of what the real estate agents generally called contingencies. So
Liz: Oh, oh, that's when your spacecraft is supposed to launch on Tuesday, but it's cloudy and there's a thunderstorm. So your spacecraft has to launch on Wednesday,
Ben: Liz you're not allowed to talk about space.
Liz: I'm allowed to state the existence of rocket, alright.
Ben: Right, let's just keep it hush hush. But yeah, back to real estate land, these contingencies really are risks. There was another house, we called it the Luther because it was at 1517 12th or 13th Street.
Liz: Was that the year of Martin Luther and his precepts?
Ben: [Laughs] Precepts. You're avoiding the word that doesn't sound good on radio. So my hard-nosed inspector, he went in, and he found black mold in the basement behind the drywall. And so we come back, and we're like, here's what it's going to cost to remediate this mold. And the sellers were like, No, that's too much, it's off. There really are ways in which these real estate deals fall through. And so there is risk. And the question is, is the buyer gonna accept the risk? Or is the seller gonna accept the risk?
Liz: Right, because as Jared told us, there are some people who win the house, because they're willing to not have an inspection done.
Ben: Yeah. So this is the waiving of contingencies.
Liz: Well, Ben, it seems like your inspector was pretty great, except for the fact that he did not anticipate an entire wall of your house falling down.
Ben: This goes back to the Winner's Curse, Two episodes ago. He was much more optimistic about the Partisan than I expected. So there I bore the risk, I could have tried to somehow get the seller to, like, renovate the house for me. But that was impossible, there was no way that that was going to happen, especially given that the seller was in bad health. So yeah, I had to take the risk on there. But yeah, there are two things that you as a buyer can do. You can offer more money, or you can agree to accept risk that would have been put on the seller. So you can say, screw it, I waive the inspection. If there's something wrong with the house and of course, there is— And there are a lot of people who have cash to buy a house, right?
Liz: Yeah, I mean, you were talking about weeks or months before Ben, but in this market, there are people if you can't pay cash, they might actually have to wait up to a year to find the right house.
Ben: Mortgages fall through two. So there's really is risk in accepting somebody with a mortgage. Here, let's throw in a montage of Jared talking about contingencies and risk.
Unknown Speaker 12:56 Sure, they'd love to get that extra $30,000 from from buyer one, but it's just too risky. It's a safer bet to go with buyer number two.
And it's not as simple as just beat the next offer by $1,000 or $500 and you'll win. Because the totality of that buyer and all their contingencies, and the lender they're working with all factor in.
A lot of times $1,000 is not enough, because your offer might include other contingencies that the competing offer does not.
You have to really know how many contingencies you have to know how much more over you should be bidding against the next person.
Ben: Yeah, so there it is, risk reward. Now, you're all ready to be real estate agents.
Liz: Now hold the phone, Ben. Real estate agents have secret knowledge. They can help you navigate the system in ways that automated websites don't. They know about how much risk to take or give, how many dollars a removed risk will be worth to a seller. Jared seems like a successful agent. So he knows how to work out that trade off.
Ben: Sounds great, Liz, your story of why we need humans. Yeah, there's a risk reward trade off, you you offer some discount and so on. But yeah, it takes some experience to work out the dollar amount that somebody is going to accept.
Liz: Hey, am I gonna buy a house now? Nah.
Ben: It's kind of a pain, Liz. We're going to stop now, and I'm going to tell Liz about the electrician and the drama of the electrician after we go offline. So tune in next time on
Both: Pod, Paper, Scissors.