Opendoor’s iBuyer Model Is a Canary in the Economic Coal Mine

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Opendoor’s iBuyer Model Is a Canary in the Economic Coal Mine
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Oct 4, 2022 7:00 AM
Opendoor’s iBuyer Model Is a Canary in the Economic Coal Mine
The company is losing huge sums of money on cookie-cutter homes—suggesting a fundamental weakness in the US housing market.
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Opendoor is taking a pounding. Forty-two percent of the homes it sold in August made a loss, according to an analysis by market research firm YipitData. In places like Phoenix, Arizona, where cookie-cutter houses have attracted so-called iBuyers en masse, the numbers are even worse. Here, three out of every four homes Opendoor sold in August lost money.
The company blames its current struggles on “the most rapid change in residential real estate fundamentals in 40 years.” It’s a change that’s hitting Opendoor and its competitors hard right now—and it could be coming for millions of homeowners next.
Like the housing market on steroids, iBuyers more keenly feel small shifts in house prices, both up and down, as they try to squeeze profits out of tiny margins. These companies use algorithmic pricing powered by reams of big data to offer house sellers a below-market average deal in exchange for completing sales quickly. They then flip the properties and bank the profit. That’s the theory, anyway.
Dod Fraser, Opendoor’s chief capital officer, confirms the company is losing money but disputes the numbers. He says Opendoor actually made a loss on just 20 percent of sales in August, not 42 percent. Fraser declined to give an official number because the company is in a closed financial period. YipitData spokesperson Nico Wada stood by the 42 percent figure, saying the firm's statistics don’t include Opendoor’s service fees, because historically they have been offset by resale costs Opendoor faces.
Whichever way you slice it, iBuyers are vulnerable to swings in the market. So what amounts to an undetectable tremor for individual buyers can become an almighty rumble for iBuyers. And while Opendoor’s algorithm might not be smart enough to stop overbidding on houses that are dropping in value, it is smart enough to see into the future—and what it’s seeing right now doesn’t look pretty.
Just a few months ago, Opendoor was more bullish. In February 2022, four months after rival firm Zillow realized it couldn’t make iBuying work , Ian Wong, chief technology officer and cofounder of Opendoor, said that his company was less exposed to wider issues in the housing market because it didn’t rely as heavily on automated valuation models, or pricing homes through AI. But as the US housing market continues to slide, iBuyers face an uphill struggle.
Opendoor in particular and iBuyers in general, including Redfin, along with mortgage providers like Rocket Mortgage have some of the best leading indicators on the housing market, says Mike DelPrete, an iBuying market analyst and scholar in residence at the University of Colorado Boulder. While economists try to divine where the market is going from lagging indicators, data collected by iBuyers can tell what the market sentiment is right now.
iBuyers know, for example, how many people are touring a home on any given day, or the average number of tours per house sale. And they know how many offers each home receives each day. This, and scores of other data points, gives iBuyers a view unlike any other. And Opendoor’s scale—the company bought 155 homes every single day in the second quarter of 2022—gives it better granular insight than most into where the market is headed. The company utilizes both third-party data on houses, plus its own proprietary analyses, which look at 120 unique home features with each inspection.
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And right now, Opendoor’s behavior, driven by the data it sees, augurs bad tidings ahead. “Right now, they're trying to sell as much of their inventory as fast as humanly possible,” DelPrete says. One possible narrative is that based on the data Opendoor sees, the company believes things might get even worse. “They’re reading the tea leaves,” he says. “They just have better tea leaves than you and I do.” Fraser doesn’t dispute that: “We are able to react to changing conditions very efficiently and very quickly because of those signals we have in our business,” he says.
But the data Opendoor has access to may only tell half the story. iBuyers accounted for 1.3 percent of all US home sales in 2021, an all-time high, but some regions are more popular than others. “Their model is such that they can really be successful only in some parts of the market,” says Amit Seru, professor of finance at Stanford Graduate School of Business. iBuyers operate in areas where the housing stock is relatively new and uniform , so they’re overrepresented in cities like Phoenix and Las Vegas but ignore states such as Missouri and parts of Texas , where older houses dominate. 
Fraser disputes the idea that Opendoor doesn’t have insight into the broader market. Its “buy-box coverage,” where it makes offers on homes in markets it operates in, stands at 65 percent. “This is a mainstream product, not a niche product,” he says.
While prices in Phoenix increased during the pandemic from $445,000 in August 2021 to $549,300 in August 2022 , the amount of time properties spent on the market before sale rose 30 percent in the same time period, indicating that buyers were thinking harder about their purchases—a problem for iBuyers, who rely on quick sales.
Analysts forecast softness in the market in September, and that became a reality, as Opendoor sold large numbers of properties at a loss. Seru does think that the struggle iBuyers face now is indicative in some way of economic headwinds, because of the way that iBuyers work. When times are good, they win big. And when times get tough, they’re among the first to struggle.
An iBuyer’s gross profit on any transaction is in the range of 5 percent, according to Tomasz Piskorski of Columbia Business School, who is also a member of the National Bureau of Economic Research. When that margin gets squeezed, iBuyers are among the first to drop out because their business model is predicated on selling the homes they buy quickly at a profit. “Opendoor now knows that if they buy this home—and remember, it comes at a discount—that they may end up being stuck with it for many months,” says Piskorski.
DelPrete makes an analogy between iBuyers like Opendoor and short-term stock traders. For decades, people bought shares in a company with the goal of holding onto them for years and earning steady returns on their investment. People did the same with property: moving into a home, living in it for decades, then selling to trade up or downsize as needed, banking the often considerable profits as they went. iBuyers have accelerated that process, flipping homes in months, rather than years, and eking out tighter margins. “It’s a fragile business model that doesn’t work well when there’s uncertainty in prices,” says Piskorski.
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