Good question - just had this very discussion with one of my sellers last evening.
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It's the market's best indicator of relative value.
His home may not be a distressed property but the market his home is in is. As the market gains strenght and the distressed properties are sold the inventory will decrease and the market values will gradually rise and the rising tide will lift all boats.
Appraisers are very much 'under the gun' now and they have to conform to the local market and only very recent sales. This, unfortunately forces them to use comps that are necessarily the best. It's a 'technical' view...and the view most banks are desperately clinging to because the market is still too shaky.
When we do a BPO, we have a space for special considerations; such as concessions, closing costs and financial deals: I believe that Appraisers have this space too. It should make for a level playing field. In fact, it really has to!
When we do a CMA, for our client we have the same problem: Since >80% of the sales are SS or REO's, it is impossible to ignore them. We could do 2 CMA's, one with "normal" sales and another with all sales; but what would that accomplish?
When outside people, (you know, all those people who aren't Realtors) read an Appraisal or a CMA, are they taking all this into consideration? I would bet not.
I took a STATISTICS course when I was in college, (yes, we wrote on slate, but it was good slate!), and it made me paranoid for numbers and way they can be twisted to prove the preceived point. But our clients rely on us to give them the straight scoop AND to explain it.
And 2-3 years from now, are we going to ask the same question, only in reverse?
This is a very good question and is coming up with sellers all the time now. With as many Short sales and REO's that are on the market now, they are the direct competition of your sellers home. Some buyers will look at the difficultness and longer time lines of purchasing a short sale or REO and the possible condition, but at the end of the day they are still part of the current market and have to be included.