Price anchoring: the one fool pricing principle

I am currently apartment hunting. If there’s an area full of psychological influence (or power play), it's the housing market. Time to dissect some of the ways our decision-making is influenced, especially when it comes to pricing.

One psychological mechanism I discovered this week is what I have named the ‘one fool pricing principle.’ This is closely related to a well-studied principle in behavioural science called anchoring.

We humans struggle to determine the true value of things. Money and value are abstract, subjective concepts, and our brains use shortcuts to make sense of them.

So, what is my ‘one fool pricing principle’?

It involves one person willing to pay (far!) more for a property than it’s worth. This price sets a new anchor. For example, if someone pays 900k for a 100m² flat in Amsterdam listed for 720k, suddenly 900k becomes the new ‘normal’ (anchor) for similar properties, which estate agents are more than happy to quickly adopt.

This leads to problems for both buyers and sellers. Buyers get trapped in an overpriced market, facing intense bidding wars, making it nearly impossible for people with average incomes to buy a home. This issue affects many cities worldwide.

But also sellers are blinded by anchors. I’ve seen this happen personally. My neighbours have been trying to sell their rundown flat for 875k for over two years. It needs at least 150k in renovations, but they won’t lower the price...hoping for another ‘fool’ to come along.

Their behaviour is driven by loss aversion. If an estate agent lists your property at an inflated price, any lower offer feels like a loss, which is psychologically harder to accept than a gain, even if the property was originally bought for much less.

I understand, buying a home is emotional, and it should feel like home. However, to avoid becoming that ‘one fool,’ one thing is key:

Never communicate your bid in isolation; always put your bid in a context that sets new anchors, this time for sellers to consider.

For instance, our bid is based on the fact that 1) the property has been on the market for 2 years already, 2) the bid is comparable to three recent sales of similar properties in the neighbourhood, 3) it requires 150K in renovation costs, making the total cost of the property 1,025K, 4) in the neighbourhood, there are three already renovated properties available for that price, without us having to deal with the hassle of renovation, and 5) you bought this property for 250K. These are examples, but all these things you can check before you make your bid!

My hope is that if we all keep our cool, we might help stabilise the housing market. It's challenging, I know, especially in a scarce market, but understanding these psychological mechanisms will hopefully help you avoid making any foolish decisions that cause you so much financial stress that you never get to enjoy living in your home.

Forewarned is forearmed!