Real estate has historically performed worse than stocks (appointed, sales)

[sliverbox]

Sort of a refresher in economics 101 only because it seems that people in the Bay Area have this sort of enthusiastic zeal for investing in houses. ( so moderator, please leave this here as its pertinent)

If you look back well over 100 years and then go forward, even for today, real estate as an investment has never performed near as well as the overall stock market. While this seems incredulous to believe, its fairly well understood in basic economics.

See the chart from this site:
http://3.bp.blogspot.com/-xk6AskETuD...t%2BGrowth.jpg

As can be seen, that delta is fairly large. Basically you're looking at a maybe 3-4% annual appreciation rate for real estate versus anywhere from a 7-10% rate for stocks.

Additionally, there's something that stocks do very well, and that is they tend to aggressively compound and thus accelerate in value after a certain time period. Hence even someone who does nothing more than invest in boring 401ks, mutual funds, and whatnot could quiet easily be a millionaire by the time they retire and they wouldn't have had to buy wooden boxes and have to re-paint them and fix the plumbing either.

PS: I say this as a homeowner too.

[sonarrat]

Good numbers.

I've also sat down and figured something else out. If I was to do what most people do here and buy a starter, then trade up every couple of years, in order to achieve a gradually more tolerable standard of living, the resetting interest amortization means I would throw away just as much money as renting - only in the form of interest and taxes instead of lease payments. This is true even if I take the mortgage interest deduction into account (since I only count how much more it gets me compared with the standard deduction).

Add the fact that folks spend $10-15K on a new house just fixing things they don't like, and multiply that by moving every 5 years.. and I'm left scratching my head. All other things being equal, it seems like it's a wash at best, a certain loss at worst. But I guess that doesn't factor in luck.

[beb0p]

Originally Posted by sliverbox

As can be seen, that delta is fairly large. Basically you're looking at a maybe 3-4% annual appreciation rate for real estate versus anywhere from a 7-10% rate for stocks.

7-10% for stocks sounds high, maybe once a while but not consistently year after year. Even some hedge funds don't get that. For example, John Paulson only got a 1% return across his five funds last year. The average return is 6.2% last year for hedge fund vs. 13% for S&P500's gain. So when even the pros struggle to beat the market, I don't see how an individual can get 7-10% return year after year.

If anyone here get that return from stocks consistently, I'd love to hear how you do it.

[sliverbox]

I am supposed to make this SF specific to keep this thread here So before I continue, I will mention that the numbers mentioned before ALSO pertain to the Bay Area, which even though has higher prices doesn't really get away from the same general outcome. I also brought this up because after living here for 12-13 years, there seems to be way, way more people who seem to think buying houses is the best investment they can make, which is evident by the number of people who are tying the bulk of their money into mortgages.

But I digress. 7-10% is actually on the conservative end. But let me use a good example. I invested a chunk of change in stocks in around 2007. As we all know the market crashed. The value of what I had tanked all the way down to 40% of its original value. In 2010 it was all the way back up to the original value and now up around 30% from where I started. That shows a dramatic change in a very short amount of time. At the same time, many homes in the Bay Area started decreasing in value in 2006 and have yet to make up for that lost value as we speak. So the takeaway is that real estate is far more sluggish to react to value than stocks, and hence why stocks are typically better performers.

[checkup]

no kidding; the stock market has historically returned about 7-11% per year--the last decade was a rare poor decade. And investing in liquid assets is practically free these days with ETFs and online trading sites

real estate doesn't achieve these same gains and comes with hefty fees -- interest payments on debt, paying fees to realtors, property taxes every year, HOA for condos, various other fees for title searches, and costs of upgrades/maintenance

the reason why ppl think real estate is so great is because they tend to measure the return after many years, typically comparing initial purchase price with sales price years later. (oh man, I bought my house in 1980 for 200k and now in 2013, it's worth 1M!--that's just a 5% annual return.) But they think of returns on liquid assets on a smaller time scale like year to year performance. And they also neglect all the costs associated with real estate investing as described above.

that said, for many ppl, real estate also provides a place to live, so you're saving on rent. Or you can buy and rent it out and generate rental income that way

[checkup]

Originally Posted by beb0p

7-10% for stocks sounds high, maybe once a while but not consistently year after year. Even some hedge funds don't get that. For example, John Paulson only got a 1% return across his five funds last year. The average return is 6.2% last year for hedge fund vs. 13% for S&P500's gain. So when even the pros struggle to beat the market, I don't see how an individual can get 7-10% return year after year.

If anyone here get that return from stocks consistently, I'd love to hear how you do it.

Jim's Finance and Investments Blog: Historical Annual Returns for the S&P 500 Index - Updated Through 2011

The S&P (i.e., broader US stock market) has an average 25-year annual rate of return of about 10%. There's a lot of volatility from year to year, but the 25-year trend, which really smooths things out and nearly reflects a retirement savings horizon, shows consistent 10% (or more) annual rate of return. Note that this chart doesn't include income that you'd get from dividends.

Also, here's a little secret: hedge funds (by a pretty huge majority) suck at investing, especially today when their returns are diminishing. Empirical studies show that--particularly in recent years--they are consistently outperformed by the market. Worse, they charge ludicrous fees, which eat up much of the return, if any, that they generate. Look at any fund's long-term 10 year average ARR; very few are significantly above market. The few that are--like SAC--tend to be prosecuted for insider trading. The only bigger hoax than hedge funds as a place to park your money is real estate!

Hedge funds attract attention because they sound sexy. A bunch of geniuses who surely know more than the rest of us and seem to make a lot of money. And yes, a few here or there will generate massive returns for 1-2 years and get all the attention, and get pretty rich. But as a whole and over time, their returns are pitiful. And they get rich largely because the fees they charge--2/20--are extremely high

[sliverbox]

Indeed. And the other key here is that in my opinion, most people who I tend to meet who pooh-pooh stocks also tend to not look at them from a long-term perspective. We're talking about a 30-40 year time frame. Sure. There are ups and downs. But the overall long term trend is a fairly consistent upward trajectory.

In the Bay Area, the cost of getting a house is so high up front that any real realization on returns would be years and years in the future because let's face it- these days unless you just so happen to have all cash, then you're probably looking at a 500k mortgage with at least a 20% down. So figure 150k right out the door, plus the monthly mortgage, plus taxes, and so on. Whatever it rents for or appreciates won't come close to closing that loop for some time. That versus an investment in overall stocks which requires a much smaller initial investment and begins to return as soon as the market goes up.

[silverkris]

Maybe hedge funds are really like the relationship between casinos and gambling - the only way to make money is to own the house (casino). Meaning that really only the hedge fund managers are making the returns through the high fees charged.

[cardinal2007]

Originally Posted by sliverbox

Indeed. And the other key here is that in my opinion, most people who I tend to meet who pooh-pooh stocks also tend to not look at them from a long-term perspective. We're talking about a 30-40 year time frame. Sure. There are ups and downs. But the overall long term trend is a fairly consistent upward trajectory.

In the Bay Area, the cost of getting a house is so high up front that any real realization on returns would be years and years in the future because let's face it- these days unless you just so happen to have all cash, then you're probably looking at a 500k mortgage with at least a 20% down. So figure 150k right out the door, plus the monthly mortgage, plus taxes, and so on. Whatever it rents for or appreciates won't come close to closing that loop for some time. That versus an investment in overall stocks which requires a much smaller initial investment and begins to return as soon as the market goes up.

The thing about real estate is that they view it as a safe investment, like high rated bonds or gov't bonds or CDs, but the Bay Area is one of the worst places for that, ever since things got expensive in the 80s appreciation here has not outpaced most places. I think 3-5% annualized on real estate is common long term in the this area depending on neighborhood, but Bay Area real estate is too cyclical for that. The 80s real estate bubble peaked in 1990, the next run up started in 1997, ended in 2001 or so, and 2002 was the bottom after that, peaked in 2006 and bottomed in 2009-2011 depending on neighborhood. But there are years when prices went up 20-25% or dropped equally 20-25%. Real Estate is usually a leveraged buy, and safety in the investment only comes from the fact that mortgages originated in California to buy property are non-recourse, if you buy a house you can easily afford, you can walk away from the loan any time and the lender can not come after you for the difference. Most car loans don't work that way for example, if I buy a car and have it repo'ed it sells for a few grand at auction the bank will go after me for the difference.
Leveraged buys mean that if you put down 10%, and prices go up 10% you're basically up 100% on your original investment, but you paid interest, so you have to look at how much you paid in interest versus how much the price went up. When interest rates are this low, they would hope that borrowing at 3.5-4% you are basically gaining that back in appreciation, so they figure it is like living somewhere for free, clearly you can see the issue here, prices can not go up 4% annualized regardless of price, historically if you buy at the top of a cycle you have it much worse than those that buy at the bottom or middle of a cycle.

I also haven't mentioned the imputed rent, ie how much you would pay if you had to rent your place, and other costs either, it costs money to maintain a house, and you pay real estate taxes, though due to prop 13 it doesn't keep up with inflation like other costs. Rents go up over time, usually tracking incomes (long term real estate also tracks incomes). Imputed rent has traditionally been THE big plus for buying property, people pretended otherwise in the bubble days (how many people claimed price to rent ratios don't matter?), but now I think it is a big draw, you fix most costs, (and tie down tax increases to 2% a year), while rents will keep going up with incomes.

Anyway the bottom line is that yeah, if you where comparing just appreciation numbers RE goes up 3-5% annualized long term, while stocks go up 7-11%, but it is a lot more complicated than that, and RE is NOT more stable than stocks. If you're expecting real estate to double every 10 years, or to go up 10% a year, you'll be sorely disappointed at some point.

And yes, moving often doesn't go well with buying real estate, it costs over 10% in transaction costs buying and selling, you will pay closing costs on one or both transactions, and 6% to the realtor on the selling side.

[beb0p]

The thing is, most individual investor do not even come close to the gain of SP500. The average return of such an investor? 2.1%.

Average Investor 20 Year Return Astoundingly Awful - TheStreet

Now, I know that for someone who knows how to invest stock and is good at it, a 7-10% is not out of the question. But I highly doubt the average person get that return.