Sellers' and Buyers' Reference Point Dynamics in the Housing Market

Abstract

Building on behavioural research in economics, this paper examines reference points for sellers and for buyers in the housing market. Using experimental data, it is shown that, contrary to standard economic theory predictions, reference point dynamics can be influenced by market evolution and available information. More precisely, is it shown that the reference point depends on the seller/buyer role in the housing market, that past prices influence the reference point and that the reference point can be manipulated by information disclosure. The results are consistent with the theoretical implications of prospect theory and mental accounting.

Full text

PLEASE SCROLL DOWN FOR ARTICLE
7KLVDUWLFOHZDVGRZQORDGHGE\
>&KHQDYD]5HJLV@
2Q
)HEUXDU\
$FFHVVGHWDLOV
$FFHVV'HWDLOV>VXEVFULSWLRQQXPEHU@
3XEOLVKHU
5RXWOHGJH
,QIRUPD/WG5HJLVWHUHGLQ(QJODQGDQG:DOHV5HJLVWHUHG1XPEHU5HJLVWHUHGRIILFH0RUWLPHU+RXVH
0RUWLPHU6WUHHW/RQGRQ:7-+8.
+RXVLQJ6WXGLHV
3XEOLFDWLRQGHWDLOVLQFOXGLQJLQVWUXFWLRQVIRUDXWKRUVDQGVXEVFULSWLRQLQIRUPDWLRQ
KWWSZZZLQIRUPDZRUOGFRPVPSSWLWOHaFRQWHQW W
6HOOHUVDQG%X\HUV5HIHUHQFH3RLQW'\QDPLFVLQWKH+RXVLQJ0DUNHW
&RULQD3DUDVFKLY
D
5HJLV&KHQDYD]
E
D
*UHJ+(&DQG8QLYHUVLW«3DULV'HVFDUWHV3DULV)UDQFH
E
(6*0DQDJHPHQW6FKRRO3DULV)UDQFH
)LUVWSXEOLVKHGRQ)HEUXDU\
7RFLWHWKLV$UWLFOH3DUDVFKLY&RULQDDQG&KHQDYD]5HJLV6HOOHUVDQG%X\HUV5HIHUHQFH3RLQW'\QDPLFVLQWKH
+RXVLQJ0DUNHW+RXVLQJ6WXGLHV)LUVWSXEOLVKHGRQ)HEUXDU\L)LUVW
7ROLQNWRWKLV$UWLFOH'2,
85/KWWSG[GRLRUJ
Full terms and conditions of use: http://www.informaworld.com/terms-and-conditions-of-access.pdf
This article may be used for research, teaching and private study purposes. Any substantial or
systematic reproduction, re-distribution, re-selling, loan or sub-licensing, systematic supply or
distribution in any form to anyone is expressly forbidden.
The publisher does not give any warranty express or implied or make any representation that the contents
will be complete or accurate or up to date. The accuracy of any instructions, formulae and drug doses
should be independently verified with primary sources. The publisher shall not be liable for any loss,
actions, claims, proceedings, demand or costs or damages whatsoever or howsoever caused arising directly
or indirectly in connection with or arising out of the use of this material.

Sellers’ and Buyers’ Reference
Point Dynamics in the Housing Market
CORINA PARASCHIV* & REGIS CHENAVAZ**
*Greg-HEC and Universite
´
Paris Descartes, 143 Avenue de Versailles, 75016 Paris, France, **ESG Management
School, 25 rue Saint Ambroise, 75011 Paris, France
(Received November 2008; revised March 2010)
A
BSTRACT Building on behavioural research in economics, this paper examines reference points
for sellers and for buyers in the housing market. Using experimental data, it is shown that, contrary
to standard economic theory predictions, reference point dynamics can be influenced by market
evolution and available information. More precisely, is it shown that the reference point depends on
the seller/buyer role in the housing market, that past prices influence the reference point and that the
reference point can be manipulated by information disclosure. The results are consistent with the
theoretical implications of prospect theory and mental accounting.
K
EY WORDS: Prospect theory, reference point, loss aversion, mental accounting, information
disclosure, housing
Introduction
Consider two different persons, A and B, who want to sell two identical apartments in two
different towns. Both apartments’ market value is 100 000 and both were bought by their
owners four years ago. At first sight, the decision problem these two persons face is the
same. However, when considering what an acceptable selling price for the apartment
would be, the two sellers could take into account not only the market price of the
apartment, but also the initial buying price. Imagine person A bought his apartment for
120 000, while person B bought his apartment for 80 000. Despite the same current market
price, it can easily be understood that person A, who will lose 20 000 relative to the initial
buying price, could be more disappointed about selling the apartment than person B, who
will gain 20 000 relative to the initial buying price. This example suggests that the
reference point, defined as the decision maker’s comparison point, has an important
impact on the evaluation of the situation and, therefore, on the decision to sell or to buy.
Now consider a potential buyer interested in acquiring the first apartment for 100 000.
ISSN 0267-3037 Print/1466-1810 Online/11/000001– 24 q 2011 Taylor & Francis
DOI: 10.1080/02673037.2011.542095
Correspondence Address: Regis Chenavaz, ESG Management School, 25 rue Saint Ambroise, 75011 Paris,
France. Email: rchenavaz@esg.fr
Housing Studies,
iFirst article, 1–24, 2011
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Imagine the buyer learns accidentally that person B bought the apartment for only 80 000.
Will this information affect the buyer’s willingness to pay for the apartment?
Standard economic theory considers that a rational seller and a rational buyer in the
housing market shoul d ignore in their decision process the initial buying price of the
apartment, considered as a sunk cost bias, and exclusively focus on the present market
value. More precisely, standard economic theory assumes that agents are rational in the
sense that they try to maximize profits and their behaviour is not affected by any
psychological bias. A rational agent, seller or buyer, will always use current market price
as the reference point, meaning he will ignore past prices and will adapt instantaneously to
any market evolution. However, several recent papers studying housing markets observed
that the prediction of rational sellers and buyers is systematically invalidated by available
field data. Genesove & Mayer (2001), in their study of the real estate market in Boston,
observed that sellers ask for higher prices if they are about to incur a loss relative to their
buying price. Einio
¨
et al. (2008) showed that this reluctance to accept losses relative to the
initial buying price of the apartment also exists in the Finnish real estate market. This
effect is strong even for small losses and even two years after the purchase. Moreover,
Simonsohn & Loewenstein (2006) showed that when moving from one city to another,
buyers do not adapt immediately to the new market conditions but have price expectations
based on their past experience. All these findings suggest that sellers and buyers in the
housing market are subject to important psychological biases and, in particular, they take
their decisions relative to some reference point.
Despite the increasing evidence about the existence of such reference effects, little is
known about the way sellers’ and buyers’ reference points are constructed in the housing
market and about their influence on the decision-maki ng process. This research topic is
important because the assumptions of rationality are the basis of most of the models
aiming to explain behaviour in housing markets. While the perfect rationality assumption
may be acceptable in a normative approach, behavioural economics in recent years
stressed its failure in a descriptive approach. Building housing models on the assumption
of rational buyers and sellers that does not seem to be supported by field data is likely to
decrease the models’ descriptive and predictive power.
Reference point formation in the housing market is a difficult empirical problem
because buyers’ and sellers’ reference points are internal variables and therefore they are
not directly observable. Such variables are unavailable from conventional data sources and
are generally difficult to measure (Winer, 1986). The modelling of the reference point is a
significant challenge because different individuals could use different reference points
(Hardie et al., 1993). Indeed, as the housing market is dynamic, several potential
candidates for the reference points can be identified. For example, seller A in the former
example could use as a reference point his initial buying price, the present market price of
the apartment or a combination of the two. Moreover, in a fluctuating housing market,
intermediary evaluations of the apartment value as well as anticipations of the future
market evolution could influence selling prices. Several studies suggest that such variables
are important if one wants to explain prices in the housing market (Einio
¨
et al., 2008;
Engelhardt, 2003; Genesove & Mayer, 2001; Gneezy, 2002). However, using one
particular reference point over another can lead to incorrect predictions and no previous
study succeeded in measuring the relative importance of these pieces of inf ormation in the
construction of reference points.
2 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

The aim of this paper is: (1) to present evidence about the existence of reference effects
in housing markets both for sellers and for buyers; (2) to show that the reference point is
dynamic in the sense that it could be influenced by market evolution and available
information; and (3) to show that some properties of reference point dynamics could be
anticipated within the framework of prospect theory and mental accounting. In order to
achieve these goals, the paper builds on behavioural research literature that uses controlled
environments. Different scenarios of housing market evolution allow us to study the
impact of current market price, initial buying price, intermediary prices, historical peaks
and alternative offers on sellers’ and buyers’ reference points. It is shown that, contrary to
standard economic theory predictions, sellers and buyers do not use current market price
as the reference point; the seller’s reference point depends on market evolution and the
buyer’s reference point could be subject to information manipulation in housing
transactions.
The paper is organized as follows. First, we explain the key elements of prospect theory
as a theoretical backgr ound to study reference point dynamics in housing markets. We
then present a review of the main results about reference effects in behavioural economics
and their application to the housing market. In the following section we introduce the
conceptual model, the objectives of the study, the method and the main results. The final
section concludes with a discussi on of the results.
Theoretical Background
Prospect Theory
The most important paper about reference effects in behavioural economics is by
Kahneman & Tversky (1979). Even if the concept of the reference point is not new, as the
authors rediscovered reference level effects after the work of Duesenberry (1949) on
consumption from the 1940s was neglected (Mason, 2000), the importance of Kahneman
& Tversky’s (1979) paper is that they set the basis of prospect theory, one of the first
theories to stress the importance of psychological aspects in mode lling choice behaviour.
Prospect theory is proposed as an alternative to the expected utility model, the dominant
normative model of choice behaviour. Prospect theory introduces three im portant
behavioural aspects in modelling individual decision-making processes.
First, unlike standard economic theory, which assumes that individual s judge the
outcomes of a choice in terms of global wealth, prospect theory accounts for the
phenomenon of reference-dependence, i.e. individuals judge the outcomes of a choice in
terms of positive or negative changes relative to a reference point. More precisely, the
decision mak er is not concerned by absolute outcomes of his decision (selling his
apartment for 100 000) but by gains and losses relative to his reference point (selling his
apartment for 100 000 when expecting to sell it for 120 000 is perceived as a loss of
20 000). The use of a particular reference point affects the decision process because
preferences over final outcomes depend on the reference point from which they are judged
(Bleichrodt, 2007).
Second, under prospect theory, for the decision maker each additional monetary unit,
gained or lost, is worth less than the previously gained or lost monetary unit (Tversky &
Kahneman, 1992). For example, the difference betwee n 1000 and 2000 (2 1000 and
2 2000) seems more important than the difference between 11 000 and 12 000 (2 11 000
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 3
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

and 2 12 000). This phenomenon, known as decreasing marginal sensitivity, has direct
implications on the way the decision maker evaluates gains and losses. More precisely,
individuals are risk averse in the gain domain and risk taking in the loss domain, meaning
they prefer avoiding a sure loss and, at the same time, they prefer receiving a sure gain
(Tversky & Kahneman, 1991).
Finally, prospect theory considers that the decision maker is more sensitive to negative
changes relative to the reference point (losses) than to positive changes (gains), a
phenomenon known as loss aversion. In order to understand the importance of loss
aversion in practical choices, consider the example of a homeowner that wants to sell an
apartment bought for 100 000 and whose current market value is also 100 000. However,
imagine that two years before the homeowner could have sold his apartment for 120 000.
Standard economic theory considers that this past opportunity should not affect the
decision to sell in the present. However, a loss averse owner, for whom losing 20 000 is
perceived more negatively than wining 20 000, could experience a psychological
discomfort due to this lost opportunity. Several studies (Abdellaoui et al., 2007;
Pennings & Smidts, 2003; Tversky & Kahneman, 1992) found an average loss aversion
coefficient of about 2 suggesting that a loss has twice as much psychological impact as
the equivalent gain.
Mental Accounting
Building on prospect theory, Thaler (1985) developed mental accounting, a theory about
the manner people mentally categorize their financial transactions in gains and losses in
order to better control the use of their resources. Th is theory contradicts the standard
assumption in economics that wealth is fungible and that consumers optimize across
their entire portfolio. Indeed, Thaler (1985) showed that consumers have different mental
budgets for different categories of expenses and that, in general, they stick to these
mental budgets when taking decisions. Moreover, Thaler (1999) suggested that
consumers get utility not only from the consumption of goods as assumed by standard
economic theory, but also from getting good deals when purchasing goods. Finally,
Thaler (1985) explained that, because of the decreasing marginal sensitivity, the decision
maker will prefer two separate gains of 1000 and 2000 (segregation) rather than a unique
aggregated gain of 3000 (aggregation), and, at the same time, he will prefer a unique loss
of 3000 (aggregation), rather than two successive losses of 1000 and 2000 (segregation).
When confronted with gains and losses as unexpected revenues or expenses, bonus, gifts
or hazards, individuals adapt their mental accounting of such gains and losses in order to
feel better with their financial results by aggregating or segregating accordingly the
different outcomes (Thaler, 1999). These psychological considerations influence the way
individuals adapt their reference points following a price change (Arkes et al., 2008). If
the reference point adapts completely to a price change (the old mental account is closed
integrating all past gains and losses), the following price evolutions will be compared to
present price. In this case, past gains/losses are segregated from the future mental
account. If the reference point does not adapt completely to the price change, a part of
past gains/losses will be included in the future mental account. Reference point
adaptation corresponds to the closing of the initial mental account, closing that re-
initializes the reference point and segregates past price evolution consequences from
future price evolution consequences.
4 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Literature Review
Reference effects have been used to explain behaviour inconsistent with standard
economic theory observed by many field studies in car markets (Johnson et al., 2006), real
estate markets (Genesove & Mayer, 2001), the labour market (Fehr & Goette, 2007) and
financial markets (Odean, 1998). It has been shown that behavioural biases affect
exchange behaviour, not only for adults but also for 5-year-old children (Harbaugh et al.,
2001) and capuchin monkeys (Chen et al., 2006). Reference effects have been largely
documented for price, but they were also observed for other variables such as quality
(Hardie et al., 1993) or promotion (Lattin & Bucklin, 1989). Extensive overviews of
behavioural research about reference effects can be found in Camerer et al. (2004) and in
DellaVigna (2009).
Despite the widely available field evidence about reference effects, little agreement
exists in the literature concerning the nature of the reference point. Kahneman & Tversky
(1979) do not explain how the decision maker chooses his reference point, but they suggest
that different factors such as status quo, past experience, social norms and expectations
could affect this reference, leading to a long list of potential reference points. Moreover,
given that the reference point is subject to framing effects, it can be influenced by the way
the decision situation is presented to the decision maker. The difficulty to precisely
identify the reference point that the decision maker is using is the most criticized feature of
prospect theory that limits its applications in practical situations (Ko
¨
szegi & Rabin, 2006).
Most of the studies in behavioural economics assume some kind of reference point and
then show that given this specification, some empirical anomalies can be explained (Hack
& Lammers, 2009). However, the choice of the reference point is somehow arbitrary.
The most cited reference point in behavioural literature is status quo (Abdellaoui et al.,
2007; Ko
¨
szegi & Rabin, 2006; Odean, 1998). However, different conceptualizations of
reference points have also been proposed, including those based on past information
(Shefrin & Statman, 1985; Spranca et al. , 1991), contextual information (Mazumdar et al.,
2005), aspirations and predictive expectations (Camerer et al., 1997; Kalwani et al., 1990;
Koszegi & Rabin, 2006), normative expectations or fairness (Campbell, 1999). In the
pricing literature, models based on past prices were shown to do best in terms of fit and
prediction (Briesch et al., 1997).
An additional difficulty in studying reference points is that the decision maker does not
always use the same reference point. Reference point shifts across decision situations have
been empirically observed in different decision contexts (Bleichrodt, 2007), such as
decision under risk (Kahneman & Tversky, 1979), choice among commodity bundles and
inter-temporal choice (Prelec & Loewenstein, 1998). However, little work is available
concerning reference point adaptation in relation to market evolution (Arkes et al., 2008).
In recent years, several authors have acknowledged the concept of variable and adaptive
reference points and have studied the process of reference point formation over time (Hack
& Lammers, 2009). It has been shown that the process of adjustment towards a reference
point is not linear (Georgellis et al., 2008) and it is affected by expectations (Hack &
Lammers, 2009). Arkes et al. (2008) proposed a measure of reference point adaptation
depending on market evolution, that showed that reference point adaptation in the stock
market is consistent with mental accounting, meaning it is more important in an increasing
market than in a decreasing market.
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 5
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Behavioural Biases in Housing Markets
The first stream of evidence about reference effects in housing markets comes from the
literature about the behaviour of housing appraisers and valuers. Several psychological
biases have been identified. It has been shown that the selection of the comparable sales by
valuers and appraisers is affected by sale price anchoring bias (Black et al., 2003). Valuers
and appraisers make preliminary value judgements that represent their reference point and
then seek evidence in support of their early opinions (Diaz & Wolverton, 1998). Their
reference points can be influenced by clients (Levy & Schuck, 1999), as well as by
anonymous experts (Diaz & Hansz, 1997). Residential valuers give more weight to recently
considered information (Gallimore, 1994) and are more likely to adjust a low valuation
upward (accept a gain) than a high valuation downward (accept a loss) (Havard, 1999), a
behaviour consistent with loss aversion. All these findings contradict the rationality
assumption of the standard economic theory, suggesting that bias in human problem-solving
behaviour has an important role in the housing markets (Gallimore & Wolverton, 1997).
Another stream of evidence about reference effects and loss aversion in the housing
market comes from studies about time in the market. Time in the market literature focused
on seller pricing behaviour, buyer search behaviour and housing market liquidity
(McGreal et al., 2009). With regard to seller pricing behaviour, extensive evidence exists
about higher listing prices leading to longer time in the market (Anglin et al., 2003).
Homeowners are shown to be reluctant to change their listing price and are observed to do
so only after a long period of time and only if they have not received any offers for their
property (Merlo & Ortalo-Magne, 2004). This finding presents a challenge, because
standard economic theory is unable to explain this extreme price stickiness (Merlo et al.,
2008). In the attempt to expl ain the observed homeowners’ unwillingness to reduce listing
prices, several authors focused on behavioural explanations related to the use of reference
points and the existence of loss aversion (Einio
¨
et al., 2008; Engelhardt, 2003; Genesove &
Mayer, 2001). It has been shown that time in the market for the homeowners that are about
to incur a loss relative to the initial buying price is longer than for the homeowners that are
about to gain money from the transaction, because the sellers that are in the situation to sell
at a loss have listing prices that are significantly above the market value (Genesove &
Mayer, 2001). This finding suggests that sellers in the housing market have loss averse
preferences relative to the initial buying price of their property. The higher listing price
leads not only to a longer time in the market, but also to a higher final transaction price for
the loss averse sellers; see DellaVigna (2009) for a formal explanation of the impact of loss
aversion on seller behaviour.
Recent research suggests that behavioural biases can affect not only sellers’ behaviour
in the housing market, but also buyers’ behaviour. It has been shown that economic
conditions influence the duration of search by buyers (Baryla et al., 2000) and that past
experience with the housing market determines housing decisions. In their study of
households’ mobility from one town to another, Simonsohn & Loewenstein (2006)
observed that people arriving from more expensive cities rent pricier apartments than
those arriving from cheaper cities. However, after some period of time spent in the new
city, people get used to the local prices and readjust their housing expenditures,
counterbalancing the initial impact of previous prices. These results suggest the existence
of reference effect for buyers as well as the dynamic aspect of buyers’ reference point in
the housing market. However, little is known about the buyer reference point formation in
6 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

the housing market. Most of the pricing literature that has studied reference prices for
consumers is not directly applicable to housing markets as the authors have focused
essentially on buying behaviour for consumption goods, while apartments are durable
goods characterized by a low buying frequency and a long life.
Conceptual Model
The objective of this study is to analyse the dynamics of sellers’ and buyers’ reference
points in the housi ng market. While reference effects for sellers have already been
documented in the housing market, previous studies have only investigated the effect of
one potential reference point. This study completes previous studies by proposing a global
analysis of seller’s reference point in the housing market that takes into account and
measures the joint impact of several pote ntial refere nce points. A second contribution is to
investigate reference effects for buyers in housing markets. Understanding the formation
of the buyers’ reference points is an important research topic. In case of disagreement
about the price of a property, an agreement is more likely to be reached between a seller
and a buyer because of an increase in the buying offer rather than because of a decrease in
the seller’s reservation price (Einio
¨
et al., 2008). The reason for this is that reference points
depend on the asymmetric information agents have access to (Core, 2001; Penno, 1997).
The rest of the paper investigates four main research questions related to reference
effects for sellers and for buyers in housing markets. Each research question corresponds
to an empirical implication derived from the rationality assumption of the representative
agent in standard economic theory. The implicit idea that the agent’s reference point is the
current market price has different testable implications. First, all agents, sellers or buyers,
should identically value the same property at the current market price. Second, past prices
should have no impact on agents’ reference point. Third, reference point adaptation should
be instantaneous and not depend on market evolution. Fourth, agents’ reference point
should not be sensible to information manipulation. The remainder of the section will
discuss each research question in detail.
Buyer/Seller Behaviour in the Housing Market and Market Price
While standard economic theory considers that a rational seller and a rational buyer
will refer to the market price in order to value a property, recent empirical work suggests
that, on average, homeowners overestimate the value of their properties by between
5–10 per cent (Benı
´
tez-Silva et al., 2009). However, this overestimation is not true for all
sellers and depends on the economic conditions at the moment of purchase. Indeed,
Benı
´
tez-Silva et al. (2009) distinguished two groups of sellers: the first group of
homeowners that overestimate the value of their home represents only 20 per cent of the
total population, while the remaining individuals (majority group) tend to be more
accurate and even underestimate the value of their houses. Individuals who acquired their
properties during economic downturns, at low prices, tend to underestimate the value of
their properties if they later sell in com paratively better times, while the opposite is true for
individuals who bought during boom years. Such results suggest that sellers in the housing
market do not necessarily take their decision relative to average market price. Moreover,
these findings also suggest that in good economic times there are many buyers who are
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 7
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

overly optimistic regarding the value of the property they decide to buy (Benı
´
tez-Silva
et al., 2009).
Further evidence about the impact of market prices on buyers’ behaviour in the housing
market comes from Simonsoh n & Loewenstein (2006). By showing that past experience
with the housing market influences decision making, these authors suggested that buyers
do not refer only to market price when making housing decisions. However, in the studies
presented above it is difficult to conclude whether the tendency not to refer to market price
is a context dependent tendency—that could be completely expl ained by market cycles in
Benı
´
tez-Silva et al. (2009) or by past experience in Simonsohn & Loewenstein (2006)—or
a general tendency underlying seller and buyer behaviour in housing markets. This paper
therefore tests whether sellers and buyers in the housing market value the same apartment
identically, meaning they fix identical selling and buying prices.
Reference Points in the Housing Market
Despite the increasing evidence about the importance of reference points for sellers in the
housing market, little agreement exists in the literature concerning the nature of reference
points. The observed reluctance to sell in a decreasing housing market as well as the wish
to sell without reducing the price suggests that, for some sellers, the reference price could
be the initial buying price of the apartment. The initial buyin g price of the property is a
natural benchmark because it makes it possible to judge whether money was gained or lost
in the transaction (Spranca et al., 1991). This benchmark effect makes the initial buying
price of the apartment a good candidate for the reference point (Shef rin & Statman, 1985).
However, as housing markets are in constant evolution (Einio
¨
et al., 2008; Engelhardt,
2003; Genesove & Mayer, 2001; Stein, 1995), the seller’s reference point for the
apartment can evolve after the initial buying moment. The seller could therefore adapt his
reference point, completely or partially, at a price between the initial price of the
apartment and the actual market price for the property. Chen & Rao (2002) suggest that
after a stimulus is presented, the reference point adapts only incompletely, suggesting a
partial adaptation of the sellers’ reference point in the housing market. Using experimental
methods, Gneezy (2002) shows that a historical peak in the housing market also constitutes
a potential candidate for the sellers’ reference point.
Other recent papers have suggested that the reference point is neither the initial price,
nor the current market price, but an antici pation of the future price for the property
(Koszegi & Rabin, 2006). Mazumdar et al. (2005) indicated that additional information
about the market price of similar goods greatly influences price anticipations for durable
goods such as apartments. Confronted with such a variety of theories concerning reference
points in the housing market, the purpos e of this study is to better understand the relative
role of the initial buying price, current market price, historical peak (m aximum or
minimum) and price anticipations in sellers’ reference point formation. Moreover, unlike
previous studies, this study examines the relative importance of such variables in an
increasing housing market compared to a decreasing housing market.
Seller’s Reference Point Adaptation in the Housing Market
Reference point adaptation can be defined as the shift of the seller’s reference point
following the evolution, upward or downward, of the market value of his apartment.
8 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

The paper tests whether seller’s reference point adaptation in the housing market is
instantaneous, as assumed by standard economic theory, or whether it depends on the
housing market (increasing/decreasing) evolution. Under mental accounting, closing a
mental account leads to instant satisfaction after a gain and instant dissatisfaction after a
loss (Prelec & Loewenstein, 1998).
When adapted to the housing market these results suggest that reference point
adaptation could be more important in an increasing housing market than in a decreasing
housing market. Reference point adaptation in housing markets is directly related to the
way owners mentally categorize gains and losses related to their apartment (Heath & Soll,
1996). The owner of an apartment whose market value has increased is happier about the
future growth of his apartment market value if his reference point has adapted completely
to the present market value than if it has remained at its initial level. Indeed, because of
decreasing marginal sensitivity, the future increase of the housing market is perceived as
more important if it is interpreted as a new gain. However, if the owner’s reference point
adapted after a decrease of the market price, a subsequent price decrease would be more
painful for the owner, because new losses have a higher psychological impact. Because of
such psychological considerations, the individual is more likely to close a mental account
after a gain than after a loss (Arkes et al., 2008). Therefore, one could expect reference
point adaptation to be faster after a gain than after a loss. Such a result would be
compatible with the idea that sellers in the housing market try to reach equilibrium in their
mental accounting by considering all losses relative to the initial buying price (Shefrin &
Statman, 1985). The desire to reach equilibrium forces sellers to wait longer to sell their
apartment in a decreasing housing market (Einio
¨
et al., 2008; Genesove & Mayer, 2001).
However, the role of the initial buying price of an apartment could be less important in an
increasing market where sellers are facing gains. To conclude, one could expect that
seller’s reference point adaptation is more important in a growing housing market than in a
declining housing market.
Manipulating Buyer’s Reference Point
Standard economic theory considers that buyer behaviour in the housing market should not
be influenced by information manipulation from sellers. However, the housing market is
characterized by asymmetric information because goods are heterogeneous and, therefore,
difficult for outsiders to value (Garmaise & Moskowitz, 2004). Even if the seller and the
buyer have access to the same information concerning the housing market, the seller also
has private information about the apartment he wants to sell. Such information asymmetry
is likely to reinforce the impact of additional information on the buyer’s reference point. In
this sense, Einio
¨
et al. (2008) suggested that private information could be used
strategically by the seller in the bargaining process with a potential buyer. For example,
the original purchase price of an apartment could be a credible signal of minimum
acceptable value in the negotiation, even if the true reservation price is inferior (Einio
¨
et al., 2008). Therefore, if the market price of an apartment is below the initial buying
price, the revelation of the initial buying price by the seller could affect the buyer’s
potential reference point.
Such information manipulation is likely to succeed because the housing market is
highly illiquid and the price mechanism is slow to convey info rmation to market
participants (Garmaise & Moskowitz, 2004). Information disc losure was shown to depend
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 9
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

on different factors such as disclosure cost, information quality and information
asymmetry. More precisely, it has been shown that voluntary disclosure is greater when
the cost of revealing information is low, when information asymmetry is great (Penno,
1997) and when the quality of information is high (Verrechia, 1990). All these factors are
likely to play a role in the housing market. For the seller in the housing market, the cost of
revealing information about the initial buying price of alternative offers is null. Verrecchia
(1983) indicated that in such situations, the seller always reveals the information serving
his interests and keeps unfavourable information private. This strategy of revealing good
news and concealing bad news increases the seller’s expected gain (Shavell, 1994). Even if
the seller’s strategy consists of disclosing good news and concealing bad news, the buyer
can perhaps learn information about bad news, either by accident or as a result of an active
information search (Shavell, 1994). As previous research focused on the seller’s interest to
disclose information, little is known about the impact of good news and bad news on the
buyer’s reference point. However, because of loss aversion, it could be expected that bad
news has a higher impact on the buyer’s reference point than good news. Furthermore,
Verrechia (1990) observes that the better the quality of information, the higher the
incentive to disclose this information because of the higher expected impact on the other
party. Applied to the housing market, these results suggest that information about
alternative offers could have a higher impact on the buyer’s reference point than
information about the initial buying price, because it is based on recent information.
Experiment
Like most studies in psychology and behavioural research, this study undertook an
experiment conducted under controlled conditions. Data collection took place during the
period April –May 2008. An online questionnaire was used for the purpose. The
respondents were recruited in France either by an Internet email campaign in several
universities and Business Schools or on online housing forums. Filling-in the
questionnaire lasted on average 10 minutes. The respondents where presented with 14
hypothetical scenarios. Each scenario placed the respondent in a seller or a buyer position
in the housing market and presented information considered as having a potential impact
on the reference point. For sellers, information was manipulated about one or more of the
following elements: buying price, present market value and market evolution. For buyers,
manipulated information concerned present market value, seller’s initial buying price and
alternative offers. Except in the two scenarios designed to study sellers’ reference point
adaptation where the satisfaction scale by Arkes et al. (2008) was used, in all the
remaining scena rios the respondents were asked for the minimum selling price if they were
sellers and for the maximum buying price if they were buyers. From the total of 14
scenarios, nine were designed to study seller behaviour and five were designed to stud y
buyer behaviour. Table 1 resumes the scenarios. The scenarios will be presented in detail
and discussed in the results section.
A potential limitation of the study is the use of hypothetical questions instead of field
data. However, in order to measure reference price dynamics, it is important to control the
respondents’ access to information. Choice tasks only based on field data do n ot allow
measurement of reference point dynamics (Arkes et al., 2008). The hypothetical scenarios
method, despite its flaws, makes possible the precise measurement of the reference point
dynamics. Starting with Kahneman & Tversky (1979), this method was widely used in
10 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Table 1. Scenarios of reference effects for sellers and for buyers
Label
Respondent
role
Market
evolution Manipulated information Level Scale
Scenario 1 Standard Seller Seller - Market price 100 000 Minimum selling
price
Scenario 2 RPA Increase Seller Increasing Buying price/Market price 100 000/120 000 Expected Market
price
Scenario 3 RPA Decrease Seller Decreasing Buying price/Intermediate price/
Market price
100 000/80 000 Expected Market
price
Scenario 4 Standard
Increase
Seller Increasing Buying price/Market price 100 000/120 000 Minimum selling
price
Scenario 5 Linear Increase Seller Increasing Buying price/Intermediate price/
Market price
100 000/110 000/120 000 Minimum selling
price
Scenario 6 Maximal Peak
Increase
Seller Increasing Buying price/Intermediate price/
Market price
100 000/140 000/120 000 Minimum selling
price
Scenario 7 Standard
Decrease
Seller Decreasing Buying price/Market price 100 000/80 000 Minimum selling
price
Scenario 8 Linear Decrease Seller Decreasing Buying price/Intermediate price/
Market price
100 000/90 000/80 000 Minimum selling
price
Scenario 9 Minimal Peak
Decrease
Seller Decreasing Buying price/Intermediate price/
Market price
100 000/60 000/80 000 Minimum selling
price
Scenario 10 Standard Buyer Buyer - Market Price 100 000 Maximum buying
price
Scenario 11 Decrease Buyer Buyer Decreasing Seller’s buying price/Market price 120 000/100 000 Maximum buying
price
Scenario 12 Increase Buyer Buyer Increasing Seller’s buying price/Market price 80 000/100 000 Maximum buying
price
Scenario 13 High Offer Buyer - Offer by another buyer/Market price 120 000/100 000 Maximum buying
price
Scenario 14 Low Offer Buyer - Offer by another buyer/Market price 80 000/100 000 Maximum buying
price
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 11
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

decision theory in order to study the impact of different information on choices, precisely
the goal of this study. The use of scenarios allows economic assumpt ions to be tested by
controlling the exact information which respondents have access to. If a difference of
behaviour is observed between two scenarios A and B, where scenario B is identical to the
scenario A completed by an additional piece of information, the additional piece of
information could be held responsible for the behavioural modification. Before presenting
the scenarios, it was explained to the respondents that the study was interested in their
potential reaction if the decision problems were for real and they were encouraged to give
their preferences knowing that the data were strictly confidential and there were no good
nor bad answers. For obvious reasons, real incentives could not be used in this study.
A total of 434 subjects participated in the study. After eliminating incomplete answers,
401 valid questionnaires were used for the analysis. The average age of the respondents
was 30 years and approximately two-thirds of the respondents were males. Approximately
a third of the sample had already bought an apartment and about a third declared an
intention to buy during the next two years.
Results
Reference Point and Role of Market Price
Scenarios 1 and 10 were control scenarios where the only information given to the
respondent, placed either in a seller (Scenario 1) or in a buyer (Scenario 10) role, was
about the market price of similar goods. Market price was presented as a range with
100 000 as the average market price (‘You want to sell [buy] an apartment. You find out
that similar goods are being sold at prices between 90 000 and 110 000 euros.’).
Respondents were then asked for their minimum selling price and their maximum buying
price. Table 2 reports average selling/buying prices as well as corresponding price
distributions.
Sellers and buyers do not refer to average market price. In a housing market where the
average market price of similar goods is 100 000, the maximum buying price is 104 335,
while the minimum selling price is 98 138. It is interesting to note that sellers accept selling
at a price below the average market price (t-test ¼ 2 4.94, p , 0.001) and buyers agree to
buy at a price above the average market price (t-test ¼ 11.13, p , 0.001). This behaviour
is contrary to the standard economic theory assumption of rational buyers and rational
sellers who will refer to average market price in order to value the apartment—an
Table 2. Seller/buyer behaviour relative to current market price
Price distribution
Label
Market
price
Selling/
Buying price
Deviation
from market
price (%) Lower Market price Higher
Scenario 1 Standard
Seller
100 000 98 138 2 1.86% 39.15% 39.40% 21.45%
Scenario 10 Standard
Buyer
100 000 104 335 4.33% 13.72% 31.42% 54.86%
12 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

assumption that is true for only 39.4 per cent of the sellers and for only 31.42 per cent of the
buyers (see Table 2). Price distribution in Table 2 shows that 54.86 per cent of the buyers
agree to pay a price higher than the average market price, while only 13.72 per cent want to
buy at a price lower than the average market price. At the same time, 39.15 per cent of the
sellers agree to sell at a price lower than the average market price, while only 21.45 per
cent want to sell at prices above the average market price.
Mental accounting could explain the observed tendency to accept prices below the
average market price for sellers and above the average market price for buyers. Under
mental accounting, sellers derive utilit y not only from getting a good price for the
apartment they want to sell, but also from actually succeeding in selling the apartment. For
the seller, accepting a low selling price increases the probability of selling the apartment
and receiving his selling price in cash, even if the apartment will be lost for a lower amount
of cash. On the other hand, asking a high selling price means he will receive the higher
selling price in cash, but the probability of selling the apar tment is decreased and may
result in failing to sell the apartment. For the buyer, agreeing to pay only a low buying
price for the apartment may result in winning the apartment in exchange for a lower
amount of cash, but this also decreases the probability of being able to transact. On the
other hand, agreeing to pay a high buying price for the apartment increases the probability
of being able to buy, even if the price paid is higher. Therefore, the determination of
selling and buying prices is a balance between the mental accounts where the gains and
losses corresponding to the apartment and the cash holdings are summed up. However, this
balancing process is influenced by the perceived probability of being able to transact. The
results suggest that both sellers and buyers accept a financial contribution relative to
average market price in order to increase the probability of being able to transact in the
housing market.
Sellers’ selling price is below buyers’ buying prices. The difference between selling
prices and buying prices is statistically significant (t-test ¼ 2 10.56, p , 0 .001), with
58.85 per cent of respondents giving a buying price higher than the selling price. This
behaviour facilitating transactions in the housing market is contrary to the standard
economic theory assumption that selling/buying prices do not depend on the seller/buyer
role, but only on the subjective value attached to the apartment (an assumption that is true
for only 23.19 per cent of the respondents). Several explanations could be advanced for the
observed difference between selling price and buying price. It could be possible that the
reference point depends on the market role played by the respondent, with sellers having a
lower reference point than buyers. However, it seems more likely that the reference point
corresponds to a range of acceptable prices rather than to a unique value. This is consistent
with Kalyanaram & Little (1994) who showed that acceptance around the reference price
is wider if the reference price for the good is high and the purchase frequency of the good
is low, both conditions bein g true for apartments. Under this last interpretation, subjects’
answers allow identification of the extreme acceptable price values for the seller and for
the buyer. It could be noted that, on average, sellers accept selling at 1.8 per cent less than
the average market price and buyers are ready to spend 4.3 per cent more than the average
market price. This difference suggests that the range of acceptable prices is wider for
buyers than for sellers in the housing market.
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 13
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Sellers’ Reference Point Adaptation in the Housing Market
Scenarios 2 and 3 were used to measure sellers’ reference point adaptation in a growing
and a declining housing market . The reference point adaptation measure that was used was
based on the satisfaction (dissatisfaction) scale proposed by Arkes et al. (2008). In order to
study sellers’ reference point adaptation, respondents were asked what level of price for
their apartment today would give the same satisfaction (dissatisfaction) as an anterior price
change for the same apartment. The two scenarios corresponding to an increasing housing
market and to a decreasing housing market were: ‘Four years ago, you bought an
apartment for 100,000 euros. Two years ago, you were happy [unhappy] to learn, by an
expert, that your apartment is worth 120 000 [80 000] euros. What needs to be the
estimated value of the apartment today in order to be as satisfied as when you learned of
the first price increase [decrease]?’
Let R
0
and R
1
be the seller’s reference points when the market price is 100 000 and
120 000 and P
2
the present price that gives the same satisfaction level to the respondent.
The two reference points, R
0
and R
1
, are not directly observable. However, the objective is
to determine reference point adaptation, which correspo nds to the difference, DR, between
R
1
and R
0
. Under prospect theory, the seller has the same satisfaction by comparing
the price P
1
¼ 120 000 with the reference point as R
0
when comparing price P
2
with the
reference point R
1
. By assuming the same utility function (Arkes et al., 2008), the
difference between P
1
and R
0
should be the same as the difference between P
2
and R
1
.
Therefore, reference point adaptation can be computed as the variation of the apartment
price asked by the seller:
DR ¼ R
1
2 R
0
¼ P
2
2 P
1
Table 3 resumes average price values given by the respondents and corresponding
reference point adaptations.
Reference point adaptation is twice more rapid in a growing market than in a declining
market. In a growing housing market, respondents consider ed, on average, that an
additional price increase from 120 000 to 139 171 would lead to the same satisfacti on as
the initial price increase from 100 000 to 120 000. In a declining housing market,
respondents considered, on average, that an additional decrease from 80 000 to 69 216
would lead to the same dissatisfaction as the initial price decrease from 100 000 to 80 000.
The reference point adaptation is therefore 19 172 in a growing housing market and of
2 10 784 in a declining housing market . Relative to market price, these figures represent
16 per cent and 2 13.5 per cent. Using both absolute values (t-test ¼ 16.81, p , 0.001)
and percentage changes (t-test ¼ 4.749, p , 0.001), it is observed that reference point
Table 3. Reference point adaptation on an increasing/decreasing market
Label
Market
price
Expected
market price P
2
Reference point
adaptation
Reference point
adaptation relative to
market price (%)
Scenario 2 RPA Increase 120 000 139 172 19 172 16%
Scenario 3 RPA Decrease 80 000 69 216 2 10,784 2 13.5%
14 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

adaptation is more important in a growing than in a declining housing market, a result
compatible with mental accounting. Moreover, the ratio between the reference point
adaptation in an increasing market and in a decreasing market is 1.77. This result is
relatively close to the 1.68 ratio of reference point adaptation observed by Arkes et al.
(2008) in a different market (stock market), using low amounts of price variation ($6
variation) and a different population, suggesting that, independently of the market under
study, reference point adaptation in an increasing market could be about twice more
important than in a decreasing market.
Reference point adaptation is complete in a growing market and partial in a declining
market. Table 4 presents a classification of respondents depending on their reference
point adaptation. Five behavioural types are distinguished: no-adaptation (the reference
point does not adjust to the market price evol ution); complete adaptation (following a
market price evolution of 20 000, the reference point evolves by 20 000 in the same
direction); partial adaptation (following a market price evolution of 20 000, the reference
point evolves by less than 20 000 in the same direction); over-adaptation (following a
market price evolution of 20 000, the reference point evolves by more than 20 000 in the
same direction); and negative adapt ation (following a market price evolution of 20 000,
the reference point shifts in the opposite direction). It can be noted that complete
adaptation corresponds to standard economic theory predictions.
With regard to sellers’ reference point adaptation in a growing housing market, it is
interesting to note that the percentage of respondents who did not adapt their reference
point is extremely low: 95 per cent of the respondents adapted (totally or partially) or
over-adapted their reference point. For 69 per cent of the respondents, the adaptation of
their reference point is at least complete. The relatively high percent age of reference
point over-adaptation (34 per cent) in a growing housing market suggests an excessive
optimism related to the favourable market evolution. In a declining housing market, it is
observed that the dominant behaviour is partial adaptation (61 per cent), followed by
complete adaptation (19 per cent). A total of 14 per cent of respondents did not adapt
their reference point in the loss domain. Only 4 per cent over-adapt the reference point,
showing a form of pessimism about the future market evolution. A total of 3 per cent of
negative adaptation can be observed, suggesting some individuals anticipate a market
reversal. To conclude, in a growing housing market, the dominant behaviour is at least
Table 4. Subjects’ classification depending on their reference point adaptation
Growing market
Negative
adaptation
Non
adaptation
Partial
adaptation
Complete
adaptation
Over-
adaptation Total
Declining
market
Negative
adaptation
0.00% 0.00% 1.00% 1.25% 0.00% 2.24%
Non-adaptation 0.00% 2.49% 3.24% 5.24% 3.49% 14.46%
Partial adaptation 0.00% 1.00% 19.20% 18.70% 22.44% 61.35%
Complete
adaptation
0.00% 1.00% 2.49% 8.73% 6.48% 18.70%
Over-adaptation 0.00% 0.25% 0.00% 1.25% 1.75% 3.24%
Total 0.00% 4.74% 25.94% 35.16% 34.16% 100.00%
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 15
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

complete adaptation of the reference point, while in a declining housing market the
dominant behaviour is partial adaptation. This finding suggests that the market price has a
more important role to play in a growing market than in a declining market, a result
compatible with mental accounting.
Seller’s Reference Point Depends on Market Evolution
Scenarios 4 to 9 correspo nding to either growing or declining markets were designed to
study selling price formation depending on the housing market evolution. In each scenario,
the respondents were systematically informed about the initial buying price of the
apartment (100 000) as well as the market price for the property four years later. The
market price was set to 120 000 in the three scenarios of an increasing housing market and
to 80 000 in the three scenarios of a decreasing housing market. It can be noted that these
evolutions correspond to a 20 per cent increase or a 20 per cent decrease of the apartment
value over a period of four years. The standard scenarios used for a growing and for a
declining housing market evolution were: ‘Four years ago, you bought an apartment for
100 000 euros. You want to sell it today and you ask a housing expert to estimate its market
value. The expert lets you know that the market value of the apartment is 120 000 [80 000]
euros’. In the remaining four scenarios, intermediate prices have been added in the
scenario in order to suggest either a linear market evolution or a historical peak. The
intermediate prices were introduced as follows: ‘Two years ago you learned, from a
housing expert, that your apartment market value is 110 000/140 000 euros [90 000/
60 000]’.
Table 5 summarizes minimum selling prices and selling price distributions for the six
scenarios of market evolution. For each scenario, the minimum selling price is expressed
as a percentage of market price. This percentage gives an indication about the distance of
the subjects’ answers relative to the standard economic theory assumption of rational
sellers that refer to current market price when taking decisions. By comparing, for each
scenario, the corresponding percentage with the 2 1.86 per cent deviation from market
price observed in Scenario 1, there is a prec ise measure for the relative impact of
manipulated information on seller’s reference point.
Market evolution impacts sellers’ reference point. Scenarios 4 and 7 show that market
evolution plays an important role in the construction of reference points for sellers. Sellers
accept a selling price 2.71 per cent lower than the current market price in an increasing
market (Scenario 4), while they ask for a price 8.84 per cent higher than the current mar ket
price in a decreasing market (Scenario 7). The difference between average selling price
and market price is statistically significant both in the standard scenario of market increase
(Scenario 4: t-test ¼ 2 10.34, p , 0.001) and in the standard scenario of market decrease
(Scenario 7: t-test ¼ 14.51, p , 0.001). Price distribution in Table 5 confirms that only 7
per cent of the sellers ask more than the market price in a growing market and that only 11
per cent of the sellers accept less than the market price in a declining market. However, it
can also be noted that 27 per cent of the sellers in a growing market and 24 per cent in a
declining market have a behaviour consistent with standard economic theory and
systematically set a selling price equal to market price (in all three growing/decreasing
market scenarios). The findings suggest that, in the housing market, past prices are more
important for sellers than future prices. Indeed, in an increasing housing market, sellers are
16 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Table 5. Seller behaviour depending on market evolution
Deviation from ... Price distribution
Label Market price Selling price ... market price (%) ... scenario 1 (%) Lower Market price Higher
Scenario 4 Standard Increase 120 000 116 753 2 2.71% 2 0.85% 85% 48% 7%
Scenario 5 Linear Increase 120 000 117 769 2 1.86% þ 0.85% 71% 54% 9%
Scenario 6 Maximal Peak Increase 120 000 120 995 0.83% 3.54% 46% 44% 31%
Scenario 7 Standard Decrease 80 000 87 070 8.84% þ10.7% 83% 36% 11%
Scenario 8 Linear Decrease 80 000 86 052 7.57% 2 1.27% 83% 36% 13%
Scenario 9 Minimal Peak Decrease 80 000 84 461 5.58% 2 3.24% 54% 50% 14%
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 17
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

satisfied if they get a good price relative to the initial buying price (focus on the past),
rather than ask for a high price trying to benefit from the future favourable price evolution
for the apartment (anticipation). In a decreasing housing market, sellers try to reduce the
loss relative to the initial buying price (focus on the past), rather than try to sell before
market value of the apartment decreases even further (anticipation).
Initial buying price is a more important reference in a decreasing market. The finding
that sellers fix prices below the market price in a growing market while they ask for prices
above the market price in a declining market suggests that sellers in the housing market
consider the initial buying price of the apartment when taking decisi ons. No seller accepts
selling at a price lower than the initial buying price in a growing housing market and 22 per
cent of the respondents refused to sell at a price lower than the initial buying price in a
declining housing market. The impact of the initial buying price is a 0.85 per cent decrease
of the selling price in an increasing market (difference between Scenario 1 and Scenario 4)
and a 10.7 per cent increase of the selling price in a decreasing market (difference between
Scenario 1 and Scenario 7). These figures confirm that the initial buying price has a more
important impact in a decreasing market than in an increasing market. In a decreasing
market, the reluctance to accept losses makes the seller ask for a price higher than the
market price, a price that will allow reduction of the loss relative to the initial buying price
of the apartment. The sellers’ reluctance to sell if they are about to incur a loss relative to
their buying price is consistent with the existence of loss aversion (Einio
¨
et al., 2008;
Genesove & Mayer, 2001).
Intermediate prices facilitate reference point adaptation.Thepresenceofan
intermediate price increas es the selling price in a growing ho using market and
decreases the selling price in a declining housing market. A linear intermediary price leads
to a 0.85 per cent increase of the selling price (t-test ¼ 2 5.67, p , 0.001) in a growing
housing market and to a 1.27 per cent decrease of the selling price (t-test ¼ 5.34,
p , 0.001) in a declining housing market. A historical peak leads to a 3.54 per cent
increase of the selling price (t-test ¼ 2.23, p , 0.05) in a growing housing market and to a
3.24 per cent decrease of the selling price in a declining housing market (t-test ¼ 7.86,
p , 0.001). The average data suggest that the presence of any intermediate price
influences the sellers’ reference point adaptation and that linear intermediary prices have
lower impact than extreme ones. However, this finding based on aggregated data needs to
be interpreted with caution, as the reference point does not depend at all on the
intermediate price for 39 per cent of sellers in a growing housing market and for 48 per
cent of sellers in a declining housing market. A historical peak in the housing market could
lead a seller to anticipate a market turn. However, the data contradict this interpretation in
terms of anticipation as the selling price shifts in the same direction as the peak and not in
the opposite direction. Indeed, the percentage of sellers asking a price above market price
shifts from 7 – 9 per cent to 31 per cent in a growing housing market, while the percentage
of sellers asking a price below or equal to market price shifts from 47 – 49 per cent to 64
per cent in a declining housing market, reinforcing the general impression that
intermediary prices facilitate reference point adaptation.
18 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Manipulation of the Buyer’s Reference Point by the Seller
Scenarios 11 to 14 were concerned with buyer behaviour in the housing market with a
particular interest in the possibility of manipulation of the buyer’s reference point by
information disclosure. The scenarios were constructed by adding information into the
standard buyer scenario (Scenario 10). Two types of information disclosure that could
influence the buyer’s reference point were studied: the disclosure of the seller’s initial
buying price for the apartment (‘You learn that the seller’s initial buying price for the
apartment was 120 000/80 000 euros’) and an offer made by another potential buyer (‘You
learn that another buy er made an offer of 120 000/80 000 euros for the apartment’). In both
cases, the information could be or could not be profitable to the seller, situations that will
be referred to in what fol lows as good news and bad news. Table 6 presents buying prices
and buying price distributions relative to the market price. Moreover, with regard to
sellers, the maximum buying price was expre ssed as a percentage of market price and for
each scenario the corresponding percentage was compared with the þ 4.33 per cent
deviation from market price observed in Scenario 10. This last value that measures the
relative impact of manipulated information on buyer’s reference point will be used in
the discussion.
Seller can influence the buyer’s reference point by private information disclosure. The
results show that all priv ate information revealed to the buyer significantly modifies the
buyer’s reference point. The minimal impact of additional information on the buyer’s
buying price is 3.8 per cent (Table 6). Both the offer by another buyer (t-test, t ¼ 2 14.89
and t ¼ 17.98, p , 0.001) and knowing the seller’s buying price (t-test, t ¼ 15.5 and
t ¼ 21.58, p , 0.001) have an impact on the willingness to buy. However, an offer by
another buyer has more impact than knowing the seller’s buying price (t-test, t ¼ 8.2 and
t ¼ 6.57, p , 0.001). The impact is more important when the additional price information
is low than when it is high (t-test , t ¼ 23.42 and t ¼ 27.17, p , 0.001), a result consistent
with loss aversion.
Recent information disclosure has more impact than past information disclosure. The
data show that the buyer’s reference point increase when informed about a higher
alternative offer is 1.86 higher than the buyer’s reference point increase when informed
about the seller’s initial buying price for the apartment. Moreover, the buyer’s reference
point decrease when informed of an alternative lower offer is 1.39 times higher than the
buyer’s reference point decrease when informed about the seller’s initial buying price for
the apartment. In the light of these observations, it can be concluded that alternative offers
have more impact on the buyer’s reference point than disclosing the sellers’ initial buying
price for the apartment. One possible explanation for this result is that the initial buying
price is a good quality signal for the willingness to sell (Einio
¨
et al., 2008) but based on
past information, while alternative offers are based on recent information. Recent
information has more impact on the reference point than past information both in the gains
domain and in the losses domain.
Revealing bad news has more impact than revealing good news. The decrease of the
buyer reference point related to information disclosure about a low initial buying price for
the seller is 1.93 times higher that the increase of the buyer reference point related to
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 19
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

Table 6. Buyer’s reference point manipulation
Deviation from ... Price distribution
Label Market price Buying price ... market price (%) ... scenario 10 (%) Lower Market price Higher
Scenario 11 Decrease Buyer 100 000 108 134 8,13% þ 3.80% 8.73% 15.71% 75.56%
Scenario 12 Increase Buyer 100 000 96 993 2 3.01% 2 7.34% 50.13% 28.93% 20.95%
Scenario 13 High Offer 100 000 111 391 11.39% þ 7.06% 8.48% 12.72% 78.81%
Scenario 14 Low Offer 100 000 94 101 2 5.90% 2 10.23% 64.59% 16.96% 18.45%
20 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

information disclosure about a high initial buying price for the seller. For alternative offers,
this coefficient is 1.45. The impact of bad news on reference point adaptation is therefore
more important than the impact of good news, a result consistent with loss aversion.
Conclusion
This paper aimed to shed a new light on reference effects in the housing market. While
previous literature focused mainly on the sellers’ reference point in a static context (Arkes
et al., 2008), the paper studied both reference points for sellers and buyers in a dynamic
context. Systematic differences were observed between the predictions of standard
economic theory and seller and buyer behaviour in the housing market. First, it was shown
that sellers and buyers do not identically value a property to the current market price, but
both accept a financial participation in order to increase the probability of being able to
transact in the housing market. Second, reference point adaptation was studied and the
impact of past prices on the sellers’ reference point was measured in both growing and
declining housing markets. While the influence of past prices on the reference point was
systematic, reference point adaptation was shown to be faster in an increasing housing
market. Finally, the results clearly indicate that the seller can manipulate the buyer’s
reference point in the housing market. Of practical interest, this is possible by the
disclosure of personal information such as the initial buying price of the apartment, but
also by market information in the form of offers made by another potential buyer. It was
also found that revealing current information as well as bad news has more impact on the
buyer’s reference point adaptat ion than revealing old information or good news. The
results are consistent with the theoretical implications of prospect theory (Kahneman &
Tversky, 1979; Tversky & Kahneman, 1992) and mental accounting (Thaler, 1985).
By pointing to system atic behavioural deviations from the standard economic theory
assumptions both for sellers and for buyers in the housing market, this work is but one step
forward in the attempt to bring several of the behavioural economic departures from
rationality together into a single analysis of decision makers’ behaviour (Fudenberg,
2006). When the deviations from standard economic theory are systematic for a large
number of individual s, as is the case for reference effects, the behaviour is predictably
irrational, meaning that it lends itself to economic modelling (Hack & Lammers, 2009).
Future housing models should try to include such reference effects in the analysis of
housing markets (Simonsohn & Loewenstein, 2006). In particular, the housing models
could explicitly integrate that seller and buyer behaviour depends on market evolution
(increasing/decreasing). Economic modelling that takes into account reference price
effects is likely to offer different understanding and different predictions in the housing
market. The resulting housing models should be thought of as extensions of, and
complementary to, standard normative models that could ameliorate descriptive and
predictive power.
Several topics are interesting to follow in future research. First, the results suggest that
the buyer’s reference point can be manipulated by information disclosure about the seller’s
initial buying price: communicating a high initial buying price increased buyer’s
willingness to pay for the apartment. However, a high initial buying price for the seller
also sugges ts a decreasing housing market. In such a market, the buyer has no interest to
accept to pay a high price. It could be interesting to test for the direct impact of the housing
market evolution on the buyer’s decision making. Indeed, potential buyers in the housing
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 21
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

market can sometimes wait long periods of time before transforming their project to buy
an actual purchase. During this period, the potential bu yers can look at housing offers, visit
apartments and read market analysis. The information about the housing market evolution
is likely to have an impact on buyer ’s reference point. Second, it can be argued that the
results here are specific to the French housing market. However, the phenomena
underlying the observed responses, meaning reference effects and loss aversion, have been
extensively documented for different countries. Indeed, evidence about choice behaviour
consistent with loss aversion and prospect theory was observed in French populations
(Abdellaoui et al., 2007), other EU countries (Einio
¨
et al., 2008), US populations (Arkes
et al., 2007; Genesove & Mayer, 2001), as well as Asiatic populations US (Arkes et al.,
2007). Based on these results, it may be expected that the presence of reference effects in
the housing market is not limited to French populations. A further study could confirm this
expectation. Finally, refere nce effects have been shown to be important for attributes other
than price. Even if an apartment price is an attribute that is easier to compare, several
studies suggest that loss aversion is more important for quality attributes than for price
(Hardie et al., 1993). Understanding reference effects for apartment quality could be an
interesting prolongation of this work.
References
Abdellaoui, M., Bleichrodt, H. & Paraschiv, C. (2007) Measuring loss aversion under prospect theory: a
parameter-free approach, Management Science, 53(10), pp. 1659–1674.
Anglin, P., Rutherford, R. & Springer, T. (2003) The trade-off between the selling price of residential properties
and time-on-the market: the impact of price setting, Journal of Real Estate Finance and Economics, 26(1),
pp. 95–111.
Arkes, H., Hirshleifer, D., Jiang, D. & Lim, S. (2007) A cross-cultural study of reference point adaptation:
evidence from China, Korea, and the US. Unpublished.
Arkes, H., Hirshleifer, D., Jiang, D. & Lim, S. (2008) Reference point adaptation: tests in the domain of security
trading, Organizational Behavior and Human Decision Processes, 105(1), pp. 67– 81.
Baryla, E., Zumpano, L. & Elder, H. (2000) An investigation of buyer search in the residential/real estate market
under different market conditions, Journal of Real Estate Research, 20, pp. 75 –91.
Benı
´
tez-Silva, H., Eren, S., Heiland, F. & Jime
´
nez-Martı
´
n, S. (2009) How well do individuals predict the selling
prices of their homes? Working Paper No. 571, Levy Economics Institute.
Black, R., Brown, G., Diaz, J., Gibler, K. & Grissom, T. (2003) Behavioural research in real estate: a search for
the boundaries, Journal of Real Estate Practice and Education, 6(1), pp. 85–112.
Bleichrodt, H. (2007) Reference-dependent utility with shifting reference points and incomplete preferences,
Journal of Mathematical Psychology, 51, pp. 266–276.
Briesch, R., Krishnamurthi, L., Mazumdar, T. & Raj, S. (1997) A comparative analysis of reference price models,
Journal of Consumer Research, 24(3), pp. 202–214.
Camerer, G. & Loewenstein, R. M. (2004) Advances in Behavioral Economics (Princeton: Princeton University
Press).
Camerer, C., Babcock, L., Loewenstein, G. & Thaler, R. (1997) Labor supply of New York City cabdrivers: one
day at a time, Quarterly Journal of Economics, 112(2), pp. 407–441.
Campbell, M. (1999) Perceptions of price unfairness: antecedents and consequences, Journal of Marketing
Research, 36(2), pp. 187– 199.
Chen, H. & Rao, A. (2002) Close encounters of two kinds: false alarms and dashed hopes, Marketing Science,
21(2), pp. 160– 177.
Chen, K., Lakshminarayanan, V. & Santos, L. (2006) How basic are behavioral biases? Evidence from capuchin
monkey, Journal of Political Economy, 114(3), pp. 517–537.
Core, J. (2001) A review of the empirical disclosure literature: discussion, Journal of Accounting and Economics,
31(1–3), pp. 441–456.
22 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

DellaVigna, S. (2009) Psychology and economics: evidence from the field, Journal of Economic Literature,
47(2), pp. 315– 372.
Diaz, J. & Hansz, J. (1997) How valuers use the value opinions of others, Journal of Property Valuation and
Investment, 15(3), pp. 256– 260.
Diaz, J. & Wolverton, M. (1998) A longitudinal examination of the appraisal smoothing hypothesis, Real Estate
Economics, 26(2), pp. 349– 358.
Duesenberry, J. (1949) Income, Saving and the Theory of Consumer Behavior (Cambridge, MA: Harvard
University Press).
Einio
¨
, M., Kaustia, M. & Puttonen, V. (2008) Price setting and the reluctance to realize losses in apartment
markets, Journal of Economic Psychology, 29(1), pp. 9–34.
Engelhardt, G. (2003) Nominal loss aversion, housing equity constraints, and household mobility: evidence from
the United States, Journal of Urban Economics, 53(1), pp. 171 –195.
Fehr, E. & Goette, L. (2007) Do workers work more if wages are high? Evidence from a randomized field
experiment, American Economic Review, 97(1), pp. 298– 317.
Fudenberg, D. (2006) Advancing beyond ‘Advances in Behavioral Economics’, Journal of Economic Literature,
44(3), pp. 694– 711.
Gallimore, P. (1994) Aspects of information processing and value judgement and choice, Journal of Property
Research, 11(2), pp. 97– 110.
Gallimore, P. & Wolverton, M. (1997) Price-knowledge induce bias: a cross-cultural comparison, Journal of
Property Valuational and Investment, 15(1), pp. 261– 273.
Garmaise, M. & Moskowitz, T. (2004) Confronting information asymmetries: evidences from real estate markets,
The Review of Financial Studies, 17(2), pp. 405 –437.
Genesove, D. & Mayer, C. (2001) Loss aversion and seller behavior: evidence from the housing market,
Quarterly Journal of Economics, 116(4), pp. 1233–1260.
Georgellis, Y., Gregoriou, A. & Tsitsianis, N. (2008) Adaptation towards reference values: a non-linear
perspective, Journal of Economic Behavior and Organization, 67(3– 4), pp. 768– 781.
Gneezy, U. (2002) Updating the reference point: experimental evidence. Working paper, University of Chicago,
Graduate School of Business.
Hack, A. & Lammers, F. (2009) The Role of Expectations in the Formation of Reference Points. Working Paper,
WHU, Otto Beisheim School of Management.
Harbaugh, W., Krause, K. & Vesterlund, L. (2001) Are adults better behaved than children? Age, experience, and
the endowment effect, Economics Letters, 70(2), pp. 175–181.
Hardie, B., Johnson, E. & Fader, P. (1993) Modeling loss aversion and reference dependence effects, Marketing
Science, 12(4), pp. 378– 394.
Havard, T. (1999) Do valuers have a greater tendency to adjust a previous valuation upwards or downwards?
Journal of Property Investment and Finance, 17(4), pp. 365–373.
Heath, C. & Soll, J. (1996) Mental budgeting and consumer decisions, Journal of Consumer Research, 23(1),
pp. 40– 52.
Johnson, E., Gaechter, J. & Herrmann, A. (2006) Exploring the nature of loss aversion. IZA Discussion Paper
2015.
Kahneman, D. & Tversky, A. (1979) Prospect theory: an analysis of decision under risk, Econometrica, 47,
pp. 263– 292.
Kalyanaram, G. & Little, J. D. C. (1994) An empirical analysis of latitude of price acceptance in consumer
package goods, Journal of Consumer Research, 21(3), pp. 408–418.
Kalwani, M., Yim, C., Rinne, H. & Sugita, Y. (1990) A price expectations model of customer brand choice,
Journal of Marketing Research, 27(3), pp. 251–262.
Koszegi, B. & Rabin, M. (2006) A model of reference-dependent preferences, Quarterly Journal of Economics,
121(4), pp. 1133– 1165.
Lattin, J. & Bucklin, R. (1989) Reference effects of price and promotion on brand choice behavior, Journal of
Marketing Research, 26(3), pp. 299– 310.
Levy, D. & Schuck, E. (1999) The influence of clients on valuations, Journal of Property Investment and Finance,
17(2), pp. 380– 400.
Mason, R. (2000) The social significance of consumption: James Duesenberry’s contribution to consumer theory,
Journal of Economic Issues, 34(3), pp. 553–572.
Mazumdar, T., Raj, S. & Sinha, I. (2005) Reference price research: review and propositions, Journal of
Marketing, 69(4), pp. 84– 102.
Sellers’ and Buyers’ Reference Point Dynamics in the Housing Market 23
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011

McGreal, S., Adair, A., Brown, L. & Webb, J. (2009) Pricing and time on the market for residential properties in a
major UK, City Journal of Real Estate Research, 31(2), pp. 209–234.
Merlo, A. & Ortalo-Magne, F. (2004) Bargaining over residential real estate: evidence from England, Journal of
Urban Economics, 56(2), pp. 192– 216.
Merlo, A., Ortalo-Magne, F. & Rust, J. (2008) The home selling problem: theory and evidence. Paper presented at
the Cowles Foundation Summer Conference.
Odean, T. (1998) Are investors reluctant to realize their losses? Journal of Finance, 53(5), pp. 1775–1798.
Pennings, J. & Smidts, A. (2003) The shape of utility functions and organizational behaviour, Management
Science, 49(9), pp. 1251– 1263.
Penno, M. (1997) Information quality and voluntary disclosure, The Accounting Review, 72(2), pp. 275–284.
Prelec, D. & Loewenstein, G. (1998) The red and the black: mental accounting of savings and debt, Marketing
Science, 17(1), pp. 4– 28.
Shavell, S. (1994) Acquisition and disclosure of information prior to sale, The RAND Journal of Economics,
25(1), pp. 20– 36.
Shefrin, H. & Statman, M. (1985) The disposition to sell winners too early and ride losers too long: theory and
evidence, Journal of Finance, 40, pp. 777–790.
Simonsohn, U. & Loewenstein, G. (2006) Mistake #37: the effect of previously encountered prices on current
housing demand, The Economic Journal, 116(508), pp. 175– 199.
Spranca, M., Minsk, E. & Baron, J. (1991) Omission and commission in judgment and choice, Journal of
Experimental Social Psychology, 27(1), pp. 76– 105.
Stein, J. (1995) Prices and trading volume in the housing market: a model with down-payment effects, The
Quarterly Journal of Economics, 110(2), pp. 379– 406.
Thaler, R. H. (1985) Mental accounting and consumer choice, Marketing Science, 4(3), pp. 199–214.
Thaler, R. H. (1999) Mental accounting matters, Journal of Behavioral Decision Making, 12(3), pp. 183–206.
Tversky, A. & Kahneman, D. (1991) Loss aversion in riskless choice: a reference-dependent model, Quarterly
Journal of Economics, 106(4), pp. 1039– 1062.
Tversky, A. & Kahneman, D. (1992) Advances in prospect theory: cumulative representation of uncertainty,
Journal of Risk and Uncertainty, 5(4), pp. 297 –323.
Verrechia, R. (1983) Discretionary disclosure, Journal of Accounting and Economics, 5(1), pp. 179 –194.
Verrechia, R. (1990) Information quality and discretionary disclosure, Journal of Accouting and Economics,
12(4), pp. 365– 380.
Winer, R. (1986) A reference price model of brand choice for frequently purchased products, Journal of
Consumer Research, 13(2), pp. 250– 256.
24 C. Paraschiv & R. Chenavaz
Downloaded By: [Chenavaz, Regis] At: 11:33 25 February 2011