A Home is a place to live not invest
Motley Fool
The Worst Investment Ever
Friday May 18, 2:05 pm ET
By Robert Aronen
My fellow Fool John Rosevear considers a house to be the best investment ever. I disagree. A house is a place to live, not a road to riches.
Think about it for a minute. What characteristics do Fools look for in a great investment? Positive cash flow, low expense ratios, low transaction fees, and historically proven returns. Using these criteria, the average house falls well short of the all-time best.
Positive cash flow
If you buy a house, how much money goes into your pockets every year? How much goes out? That's right -- a house clearly produces negative cash flow. Mortgage payments, maintenance, and taxes add up to a lot of money heading out and none coming in.
This is not necessarily true for real estate as an asset class. Purchase a parking lot, apartment block, or strip mall, and you very well may find that the rents are higher than the cost of ownership. Real estate that generates positive cash flow can be a great investment. This positive cash flow fuels the dividends from REITs such as Avalon Bay (NYSE: AVB - News) and American Financial Realty (NYSE: AFR - News).
Low costs
The Fool has long advocated seeking investment vehicles with low expense ratios and transaction fees. The expense ratio is the cost of owning an investment as a percentage of its value over the course of a year. Shannon Zimmerman at the Motley Fool Champion Funds service searches for mutual funds with expense ratios of less than 1%.
How does this compare to housing? Costs vary significantly by location, but for urban areas, annual property taxes are typically between 1% and 2% of the current property value. Annual maintenance costs can add another 1% of the property value. If your down payment is less than 20%, you will also usually have to pay private mortgage insurance. Add property insurance, and the annual expense ratio associated with homeownership can easily reach 3% or more.
The big hit, however, arrives when you sell a property. Real estate agents will collect 6% of the selling price, while, lawyers, inspectors, title companies, and banks will collect additional fees. These fees appear as though they will remain stubbornly fixed for years to come. If you flip properties as though you are actively trading stocks, the only folks getting rich will be real estate agents. Meanwhile, transaction fees for stocks and mutual funds have plummeted in recent decades, to the point of falling below $10 per trade at several discount brokers.
Historically proven returns
The Fool has long advocated shares of individual companies as the best road to wealth, because of their inflation-crushing performance over very long periods of time. In The Future for Investors, Jeremy Siegel identifies several companies that have not only beaten inflation but also delivered returns far in excess of the market average for 50 years. It does not take a genius to actually buy companies like Pfizer (NYSE: PFE - News) or Altria (NYSE: MO - News), consistently reinvest the dividends, and build wealth over the decades. Over the 50 years of data compiled, Pfizer and Altria returned 16.0% and 19.8% respectively.
For any time period longer than the past few years, residential housing prices fall far behind these returns. Perhaps the best measure of housing-market appreciation is the S&P National Home Price Index. This index represents the actual appreciation of the same house over time, whereas a portion of overall housing-price increases occurs because new houses are generally much larger than old houses and people frequently spend substantial money upgrading and expanding their houses. Looking at the index, from 1987 to 2006, we see that the overall average appreciation in the U.S. was only 5.6%. Even cities showing huge gains during the final years of the housing bubble -- including San Diego, Las Vegas, and Washington, D.C. -- showed gains slightly above only 7% for the 19-year period. If we adjust these returns for inflation, we end up with real returns on housing in a range of 3%-5%. Subtract our annual expense ratio of 2%, and the return gets pretty thin.
This index is relatively new, and the data ends at the top of the final eight years of the biggest housing boom in U.S. history. Longer-term data paints an even less encouraging picture. Piet Eichholtz studied records on home sales in Amsterdam's premier Herengracht neighborhood from 1628 to 1973 and found an inflation-adjusted return of 0.2%. There were periods of rising prices and periods of falling prices, but not a continuous march upward with spectacular returns.
Final thoughts
I will agree with John Rosevear on one account -- a house is a great place to live. Fool Mary Dalrymple provides a good discussion of the issues associated with the rent-or-buy decision. Those who think renting is "throwing money away" should consider that mortgage interest, maintenance, taxes, and insurance are also "thrown away." Having a place to live costs money no matter what, and a rational evaluation of your local market should let you know which one is a better value. Before you start plugging overly optimistic numbers into the rent-vs.-buy calculator, just remember that past performance may not be indicative of future returns.
Fool contributor Robert Aronen does not own shares of any of the companies mentioned. He lives in a van, down by the river. He would rather fund his retirement with his stock portfolio, not equity withdrawals from a house. Please feel free to share your comments with him. The Motley Fool has a disclosure policy.
The Worst Investment Ever
Friday May 18, 2:05 pm ET
By Robert Aronen
My fellow Fool John Rosevear considers a house to be the best investment ever. I disagree. A house is a place to live, not a road to riches.
Think about it for a minute. What characteristics do Fools look for in a great investment? Positive cash flow, low expense ratios, low transaction fees, and historically proven returns. Using these criteria, the average house falls well short of the all-time best.
Positive cash flow
If you buy a house, how much money goes into your pockets every year? How much goes out? That's right -- a house clearly produces negative cash flow. Mortgage payments, maintenance, and taxes add up to a lot of money heading out and none coming in.
This is not necessarily true for real estate as an asset class. Purchase a parking lot, apartment block, or strip mall, and you very well may find that the rents are higher than the cost of ownership. Real estate that generates positive cash flow can be a great investment. This positive cash flow fuels the dividends from REITs such as Avalon Bay (NYSE: AVB - News) and American Financial Realty (NYSE: AFR - News).
Low costs
The Fool has long advocated seeking investment vehicles with low expense ratios and transaction fees. The expense ratio is the cost of owning an investment as a percentage of its value over the course of a year. Shannon Zimmerman at the Motley Fool Champion Funds service searches for mutual funds with expense ratios of less than 1%.
How does this compare to housing? Costs vary significantly by location, but for urban areas, annual property taxes are typically between 1% and 2% of the current property value. Annual maintenance costs can add another 1% of the property value. If your down payment is less than 20%, you will also usually have to pay private mortgage insurance. Add property insurance, and the annual expense ratio associated with homeownership can easily reach 3% or more.
The big hit, however, arrives when you sell a property. Real estate agents will collect 6% of the selling price, while, lawyers, inspectors, title companies, and banks will collect additional fees. These fees appear as though they will remain stubbornly fixed for years to come. If you flip properties as though you are actively trading stocks, the only folks getting rich will be real estate agents. Meanwhile, transaction fees for stocks and mutual funds have plummeted in recent decades, to the point of falling below $10 per trade at several discount brokers.
Historically proven returns
The Fool has long advocated shares of individual companies as the best road to wealth, because of their inflation-crushing performance over very long periods of time. In The Future for Investors, Jeremy Siegel identifies several companies that have not only beaten inflation but also delivered returns far in excess of the market average for 50 years. It does not take a genius to actually buy companies like Pfizer (NYSE: PFE - News) or Altria (NYSE: MO - News), consistently reinvest the dividends, and build wealth over the decades. Over the 50 years of data compiled, Pfizer and Altria returned 16.0% and 19.8% respectively.
For any time period longer than the past few years, residential housing prices fall far behind these returns. Perhaps the best measure of housing-market appreciation is the S&P National Home Price Index. This index represents the actual appreciation of the same house over time, whereas a portion of overall housing-price increases occurs because new houses are generally much larger than old houses and people frequently spend substantial money upgrading and expanding their houses. Looking at the index, from 1987 to 2006, we see that the overall average appreciation in the U.S. was only 5.6%. Even cities showing huge gains during the final years of the housing bubble -- including San Diego, Las Vegas, and Washington, D.C. -- showed gains slightly above only 7% for the 19-year period. If we adjust these returns for inflation, we end up with real returns on housing in a range of 3%-5%. Subtract our annual expense ratio of 2%, and the return gets pretty thin.
This index is relatively new, and the data ends at the top of the final eight years of the biggest housing boom in U.S. history. Longer-term data paints an even less encouraging picture. Piet Eichholtz studied records on home sales in Amsterdam's premier Herengracht neighborhood from 1628 to 1973 and found an inflation-adjusted return of 0.2%. There were periods of rising prices and periods of falling prices, but not a continuous march upward with spectacular returns.
Final thoughts
I will agree with John Rosevear on one account -- a house is a great place to live. Fool Mary Dalrymple provides a good discussion of the issues associated with the rent-or-buy decision. Those who think renting is "throwing money away" should consider that mortgage interest, maintenance, taxes, and insurance are also "thrown away." Having a place to live costs money no matter what, and a rational evaluation of your local market should let you know which one is a better value. Before you start plugging overly optimistic numbers into the rent-vs.-buy calculator, just remember that past performance may not be indicative of future returns.
Fool contributor Robert Aronen does not own shares of any of the companies mentioned. He lives in a van, down by the river. He would rather fund his retirement with his stock portfolio, not equity withdrawals from a house. Please feel free to share your comments with him. The Motley Fool has a disclosure policy.
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pay cash fo them and you wont. its not the house thats breaking you, its the bank.[;)] 0 -
Bought the first house for $26k. Sold it 2 years later for $46k. Bought the next house for $41k. Still own it at an appraised value of $525k. Bought the next house for $265k. It's now on the market for $1.4 mil.
When I get rid of all my So. Cal houses I'll have $1.9 mil.
I'd say houses, bought correctly and in a good local are a good investment. But what do I know.0 -
If I had invested my original $10K in 1984, and rented, I would be able to pay cash for a nicer place than this today. 0 -
ask your son for a loan![:D] 0 -
Like anything it all depends on your luck and your judgement. I know people out here in southern CA who have made out quite well in real estate. It is also quite posssible to rent well also, and while can't get your rent money back, you can live in a nice place on the cheap, and invest that extra money in somehing else. Or just buy more guns!
With mortgages taking around 50 percent of a two earner income, I don't see it going up like it did again. That makes it a rather unattractive thing for a single guy to sink his money into, not to mention the added responsibility.0 -
The last place I'd ever look for investment advice would be from a news column entitled "fool"!
I've owned 12 houses in several states through the years, and made a fair profit on the sale of each one.
As I see it, the key is to improve the property and maintain it so that it always looks new.
Paying rent just makes the landlord richer.0 -
quote:Originally posted by TexasVet
The last place I'd ever look for investment advice would be from a news column entitled "fool"!
I've owned 12 houses in several states through the years, and made a fair profit on the sale of each one.
As I see it, the key is to improve the property and maintain it so that it always looks new.
Paying rent just makes the landlord richer.
Very Well Said.. As a Landlord I have talked to many of loan officer thru the years for Tenants getting a loan for a home. Nothing makes me happier to see a young couple get out of renting to their first home. Simply if the Tenant can make a constant payment for rent they are not a risk for the lender. Payment on time is very important for credit.0 -
Location, location, location.
[:D]0 -
I would suggest that for most people, a house has some problems as an investment. The primary one I've seen is that people get emotionally attached to their home. There's nothing wrong with this generally, but it makes it difficult to make any money off of it when you don't want to sell. Also, unless you're willing to relocate and/or move into less of a house, what are you going to replace it with? Another home, with similar features in the same community will cost the same money. 0 -
A major aspect of what makes buying rental houses a good investment, which was not mentioned by the Fool, is that you can leverage your money, something you cannot do with the stock market.
You can put 5 or 10 percent down on a house, let the tenant pay the mortgage, but you own all the appreciation that builds up.
Gotta pay 100 per cent cash to play with the stock market.0 -
[8D]-I bought a rental in 1992,for $130,000, rented way above mortgage/ins/tax's. etc:--
--had minor upkeep and maintenance, got a large mortgage tax write off each year, paid NO state taxes for the entire ownership, claimed, sometimes a questionable amount each year for maint.--
--Sold it in Dec 2005 for for $395,000 (AS IS) with all required insp. certs and full disclosures--
--All in all, after Cap gains of $50,000, my overall profit was about $248,000 and the house I live in is already PAID FOR, so it was a GOOD investment !!!
--[:D][:D]--JIMBO0 -
Oh no...not this again.
Buying a house is a GREAT investment but most people don't understand how to buy them and more importantly how to pay for them. For most people their primary residence is the most powerful financial investment they will ever make and most of them don't even come close to getting the most out of it.0 -
Why not spend your money on a house you can enjoy growing old in. People spend so much time and effort aquiring money, as if they can take it with them when they die. 0 -
Ok. - You've got it !!
Life is for the living.
If by some chance I decided to move to Montana (not a bad thought) - the equity I have in my place would pay off a place there.
But... I like where I live.
Doug0 -
It all depends on when & where. On most of the houses I have owned I did quite well. The one exception is the Condo I bought in 1986.
It soared in value for four years & then when the Soviet Union collapsed the price went back down to where it started. The people who bought in 1990 were upside down in value for at least seven years.
I sold it in 1997 & after paying a realtor I made less than $10,000
on it which was far less than the homeowner fees not to mention property taxes.
The next two houses did much better especially since the second one took 18 months to be built after I put down my down payment. The value of the one I was living in soared while I was waiting for the new one.0 -
if you LOSE money on a house,..you really need a lesson in in home buying. IMHO, If you lose on a house,..you picked the WRONG neighborhood in the first place. It's just like anything else,..you get what you pay for, and if you buy junk,..then you sell junk. If you pony up for a decent place in a decent neighborhood, you'll never lose.
Hell, My folks built a house in FT Lauderdale historic district, for maybe 200K,..stayed 2yrs to avoid cap. gains, and sold it for $575K. Anyone arguing with that logic is obviously retarded. If your income isn't enough, or your credit isn't good,...you get what you got. BUT, if you are secure in your monetary position,...you can't lose.0 -
"It all depends on when & where. On most of the houses I have owned I did quite well. The one exception is the Condo I bought in 1986.
It soared in value for four years & then when the Soviet Union collapsed the price went back down to where it started"
Condos are shaky real estate investments. If the economy starts to go bad, compared to houses, condos will be the first to lose value. If the economy picks up, condos are the last to gain value.
Shrewd real estate investors stay away from condos.0
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