May 29, 2012
Is a house a good investment? No and oh yes
29 May 2012
Posted by Andrew Kantor
I am a fervent believer in always considering other points of view. I tend not to trust people who are so firm in their beliefs that they won’t consider the possibility that they may be wrong. (The obvious exceptions are point of view completely dissociated from reality — if you want to argue that the Earth is flat or that cavemen rode dinosaurs, go right ahead. I’ll just ignore ya.)
You learn a lot from hearing and considering The Other Side. If you’ve never said, “Hmm, you have a point,” then something’s wrong.
All that’s a preface to a piece called “Real Estate: The Great Lie” by financier/investor/portfolio manager Romeo Fayette on his site The Buttonwood Tree.
In it, he argues rather well that residential real estate is a bad investment.
His basic point is that, for the most part, real estate values remain pretty close to flat when you take inflation into account.
Real Estate & housing are not terrific investments. Most suggestions otherwise are a huge lie, perhaps The Great Lie. The Lie is perpetrated most in the commercialization of the “American Dream”: a white, picket fence for every man, woman, and family. Non-income-producing, residential real estate is broadly a money pit. For long-term holding periods (5-20 years), the value of this real estate is severely eroded by its cost of carry, including Taxes + Insurance + Maintenance.
In one example, he points out that if you assume that property values increase by two percent (over and above inflation), it will take 38 years for the value of the house to equal the amount of money — interest, principal, taxes, insurance — put into it.
He shares one of my favorite graphics, too, to make his point. It essentially looks at home prices adjusted for inflation vs. the actual dollar amount:
Unless there’s a bubble, home values pretty much hold a straight line (the black line), even as prices go up with the rest of the economy (the blue line).
So what’s the deal?
Mathematics vs. reality
Thing is, Fayette is right. He’s right, but. And that “but” is crucial.
Fayette is looking at property as strictly a financial investment — an object you purchase for X dollars, then sell later for Y dollars. From that narrow perspective, yes, on average a house isn’t a good investment. But a house is very different than other investments, and I don’t mean for touchy-feely reasons, either.
You can’t live in a stock portfolio, or in a gold brick, or in an oil future. A house has value beyond being a material object. In simple terms, you need to consider what it’s worth as a living space while it appreciates in value. Every dollar you don’t pay in rent, for example, counts towards a home’s worth.
Many investments gain value over time. But not many of them are usable while they grow; a house has value from appreciation and while it appreciates. Nothing else does that.
Imagine you could buy a car, make payments, and in 10 years sell it for a little more than you paid for it. Plus during those 10 years you used it to drive to work, for vacations, on road trips, and so on. Doesn’t that sound like a good deal? Yeah, you had to make payments, put in gas and oil, pay for repairs, and so on — but when you tally up what you eventually sell it for, plus all the use you got from it, you really can’t complain.
Which is why Fayette’s argument only works if you look at a house strictly as an investment — if it sits vacant for all those years. Then yes, there are probably better ways to invest your money. But for most people, that’s not what homes are used for.
More than bricks and mortar
Fayette also ascribes no value to the other aspects of home ownership.
You’ve seen the statistics: Homeowners’ kids do better in school, they’re healthier, they’re happier — and so on. No, you can’t put a price on those things, but that doesn’t mean they don’t have value. They certainly do. (Then again, if you’re looking at a house strictly as an unusable object like a gold brick you wouldn’t consider these ancillary benefits.)
Finally, he’s looking at nationwide medians. In some places — notably where there’s growth — property values will increase well beyond inflation. In other places values will drop. So broad statements don’t work except as an intellectual exercise. (Which is, in fact, a useful thing.)
It’s kind of like saying, “The median stock on the NYSE increased by only two percent last year, therefore stocks aren’t a good investment.” True in a broad sense, but that doesn’t mean that certain stocks aren’t very good investments.
Fayette certainly has a good mathematical point: The value of a given piece of property is not likely to increase much over time once you take inflation into account. But you cannot look at houses the way you would look at other investments — they aren’t like other investments.
Whether you’re buying one to live in, or to rent out, owning a home is more than owning an object. And when considering its value, you have to take that into account.