Which is better: Real Estate or Stock?
By Peter G. Miller
For a very long time I have made
the argument on
Around the country real estate
results in many communities -- but not all -- have been extremely good
in the past year. The National Association of Realtors says that
median prices for existing homes reached
However, from an investment perspective, home values have actually risen at a far greater pace.
Imagine that a home was bought in
May 2003 for $166,455. Add 10.3 percent and sure enough the price a
year later is $183,600.
But did anyone buy a home for
cash in 2003? Some people, sure. But most homes, most of the time are
financed. If you bought with 10 percent down ($16,546), your cash
investment was up 104 percent.
What about those monthly mortgage
payments, taxes and insurance? They're just a form of economic
"rent" -- vaguely what you would pay if you didn't own, what
you might collect if you rented the property, and an "opportunity
cost" you might lose if you bought for cash that could have been
used in other ways to produce income.
According to "So, on the surface, it
looks like you would have done better in the stock market," Dr.
Hughes said. "However, that does not take into account the
ability to leverage your initial housing investment."
In other words -- keeping the
numbers simple -- assume you bought a $100,000 home in 1980.
"By 2004, it would have increased to $400,000 in value,"
Dr. Hughes said. "Thus your gain would have been
$300,000."
"However, assuming you
only made a 10 percent down payment on the home -- or $10,000 --
that means your initial $10,000 investment grew to $310,000,"
he said. "That's a gain of about 3,000 percent, which is far
better than the stock market. If you had invested the $10,000 in
stocks, it would have grown to $110,000 in the same 24-year
period."
"So that indicates the
effect of leveraging your initial housing investment into a much
larger value through borrowing."
There are, of course, other
factors to consider in comparing housing leverage and capital gains.
"Obviously, you have to pay the mortgage each month over the 24
years," Dr. Hughes said. "However, that is generally not
appreciably different from what you would have paid in rent if you
hadn't bought the home." And so, finally, someone agrees
with the idea that real estate returns should be valued on the basis
of the cash actually invested and not just sale prices, that leverage
counts, and that monthly ownership costs are simply a form of economic
"rent."
Where I disagree with the good
professor concerns the Dow Jones average.
To say that the Dow Jones
industrial average rose from 830 in 1980 to 10,000 or so this year
would be a far better compassion if we were looking at the same bundle
of 30 stocks. However, that's not the case.
What these changes suggest is
that the difference between real estate and stock investments -- even
when leverage and economic rent are included -- is still
undervalued. Why? Because the bundle of stocks the Dow once
represented has changed -- even though many former Dow components
continue as functioning, solid businesses.
In other words, to have a fair
comparison between the Dow Jones stock index and real estate, lets
look at the stocks that were included in the 1980 version of the
index. That the 1980 version of the index differs from the 2004
version is to be expected -- different companies are included each
year. Alternatively, a house built in 1980 with three bedrooms and two
baths on a given lot is substantially the same.
As to what real estate or stock
will do in the future, no one knows. As they say on Wall Street, past
performance does not guarantee future results. But then, they also say
that on Main Street.
For more articles by Peter G.
Miller, please press Real Estate investing - Master Secrets by Donald Trump Buy and Sell Real Estate Without Paying a Broker!
"In 1980, the Dow was at
830," Dr. Hughes said. "In 2004, it has been running
between 10,000 and 10,500. Rounded off, that's about a 1,100 percent
gain." Home prices in New York State over the same period, by
comparison, increased 400 percent, according to the federal data.
