The postmortems surrounding Zillow's exit from the algorithmic home-flipping business are starting to surface. Here's an article from the WSJ and here's Matt Levine's take on it. The latter piece is very Levine-like and is called, "Zillow tried to make less money."
The obvious story is that Zillow's algorithms were not valuing homes correctly. But the story is more nuanced than this. In Q1 of this year, Zillow's home flipping business was actually more profitable than it had initially expected. And that's because its algorithms were consistently undervaluing homes. So when it did transact, it was doing so at favorable / low cost bases.
The problem was that the company was not transacting enough and there was a fear of losing ground to competitors like Opendoor. Apparently only about 10% of people who requested an offer from Zillow actually ended up accepting it. Margins were good, but volumes were too low.
So what Zillow did was tweak its algorithm to be more aggressive (see above chart from the WSJ). But this created the opposite problem: low/negative margins, higher volumes.
Once again, it shows you some of the challenges with bringing real estate online. The supply of homes is largely heterogenous and there are a lot of qualitative factors that play into what someone is willing to pay.
Opendoor is best known for allowing homeowners to instantly sell their homes online. Enter your address. Get a cash offer. And then choose a closing date. (The commissions are around 5%.)
Today, Opendoor announced something new called cash-backed offers. What it does is help to reduce the friction on the buy side and how it works is that Opendoor literally backs your offer with cash.
If for whatever reason you can't come up with suitable financing, Opendoor will buy the home themselves and you'll have 240 days to figure out your affairs and buy it back from them for the same price and at the same terms.
The idea is that it helps to improve the attractiveness of your offer, which is particularly useful in competitive low interest rate environments, such as the one we're living through right now. (Already about 36% of the market in the US is compromised of all-cash homes sales.)
Opendoor started by dramatically reducing the barriers to selling a home (supply). And now they're trying to make things easier on the demand side of the marketplace. At the same time, the process is going digital. I think this is great for consumers.
For more on the trends shaping home buying in the US, check out this report that was published by Opendoor last month.
Full disclosure: I am long $OPEN.
Algorithmic home buying companies (or iBuyers) have now started to expand into Los Angeles. If you recall, most of these companies started in smaller markets where the homes are more homogenous, relatively inexpensive, and generally less liquid. Places like Phoenix.
By tackling the second largest housing market in the US (after New York City), the algorithms of Opendoor, Redfin, and Zillow will now need to content with an older housing stock, greater variability, and higher values.
All of these companies have increased their maximum offer price. The sweet spot for algorithmic home buying has typically been in the $150,000 to $300,000 range. Last year, two-thirds of all homes bought by iBuyers were in this range. I can't imagine that gets you very much in LA.
I keep expecting these companies to scale into something more beyond just iBuying and flipping. Perhaps we will see that happen once they establish themselves in country's biggest markets.