Finance Questions, Answered: Do Perceptions of Risk Impact Home Buying Decisions?
Felipe Severino
Associate Professor of Business Administration
If you think back to the run-up to the financial crisis of 2008, the drivers of the increase in prices were multiple and interdependent: lax credit standards, and high demand for credit were the common explanations. For Tuck professor Felipe Severino, one important lesson from that dark period in economic history is that beliefs play a significant role in how lenders allocate credit, but also why people decide to become homeowners. In the years prior to the real estate crash, people believed home prices would keep rising and rising, so they acted rationally according to that belief, seeking to maximize their return.
In a new working paper, Severino and colleagues take a closer look at how the perception of house price risk impacts homeownership. “We use survey data to elicit expectations about house price risk and house price growth,” Severino explains, and “and it turns out that expectations about perceived risk have a greater effect on the decision to purchase a house than the expectation that prices are going to grow.”
Severino and his colleagues obtained survey data from three sources: the New York Fed’s Survey of Consumer Expectations; Fannie Mae’s survey on house prices and market sentiments; and a Mechanical Turk survey they conducted themselves. They see numerous factors that influence the decision to buy a home, such as financial constraints, income streams, labor risk, and expected mobility. But those factors are independent of peoples’ perception of risk, which has an outsized impact on the homebuying decision. Moreover, that risk perception differs according to household income. People with less income are more affected by their perception of risk than their richer neighbors and are thus more likely to rent than own. “As your income increases,” Severino explains, you are less likely to consider housing as risky.”
With a research agenda that aims to understand the effect of credit market friction on households, entrepreneurs, and the real estate market in general, Severino has some exciting projects in the works. One is looking at the long-term effects of playing stock market games in high school (if it leads people to be lifelong stock investors, it could be an important solution to wealth inequality), and another is exploring the role of fintech lenders on improving access to credit for small and medium business.
This article was originally published in print in Tuck Today magazine.