[Paleopsych] NYT: In the Long Run, Sleep at Home and Invest in the Stock Market

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In the Long Run, Sleep at Home and Invest in the Stock Market
http://www.nytimes.com/2005/08/19/realestate/19real.html

    By MOTOKO RICH and [3]DAVID LEONHARDT

    The housing boom of the last five years has made many homeowners feel
    like very, very smart investors.

    As the value of real estate has skyrocketed, owners have become
    enamored of the wealth their homes are creating, with many concluding
    that real estate is now a safer and better investment than stocks. It
    turns out, though, that the last five years - when homes in some hot
    markets like Manhattan and Las Vegas have outperformed stocks - has
    been a highly unusual period.

    In fact, by a wide margin over time, stock prices have risen more
    quickly than home values, even on the East and West Coasts, where home
    values have appreciated most.

    When Marti and Ray Jacobs sold the five-bedroom colonial house in
    Harrington Park, N.J., where they had lived since 1970, they made what
    looked like a typically impressive profit. They had paid $110,000 to
    have the house built and sold it in July for $900,000.

    But the truth is that much of the gain came from simple price
    inflation, the same force that has made a gallon of milk more
    expensive today than it was three decades ago. The Jacobses also
    invested tens of thousands of dollars in a new master bathroom, with
    marble floors, a Jacuzzi bathtub and vanity cabinets.

    Add it all up, and they ended up making an inflation-adjusted profit
    of less than 10 percent over the 35 years.

    That return does not come close to the gains of the stock market over
    the same period. The Standard & Poor's 500-stock index has increased
    almost 200 percent since 1970, even after accounting for inflation.

    Yet investment advisers worry that this reality is getting lost in
    today's enthusiasm for houses, even as some economists say the housing
    market has peaked. People are buying homes purely on speculation,
    trading real estate almost as if it were a stock. Surveys show that a
    large majority of Americans consider real estate to be a safer
    investment than stocks.

    "With how strong the real estate market has performed, there is the
    urge for people to chase returns," said Jeff A. Weiand, executive vice
    president of RTD Financial Advisors in Philadelphia. "But it's very
    difficult to beat the long-term historical record of stocks."

    Since 1980, for example, money invested in the Standard & Poor's 500
    has delivered a return of 10 percent a year on average. Including
    dividends, the return on the S.& P. 500 rises to 12 percent a year.
    Even in New York and San Francisco, homes have risen in value only
    about 7 percent a year over the same span.

    That does not mean real estate is a bad investment. It is often an
    important source of wealth for families. But its main benefit is what
    it has always been: you can live in the house you own.

    "The biggest value of the house is the shelter it provides," said
    Thomas Z. Lys, an accounting professor at the Kellogg School of
    Management at Northwestern University. "Too many people are fixated on
    speculation whereas most of the benefit really comes from usage."

    Despite the fact that home values usually appreciate over time, most
    of the value of a house actually comes from the ability to use it. In
    this way, it is more like a car, albeit one that does not become less
    valuable over time, than it is like a stock. Whenever people sell one
    house, they must immediately pay to live elsewhere, meaning that they
    can never wholly cash out of a home's value.

    Including the value of living in a house - that is, the rent that a
    family would have to pay to live in an equivalent house elsewhere -
    homes in New York have returned more than 15 percent a year since
    1980, according to an analysis by Mr. Lys.

    But only five percentage points of this return comes from sheer price
    appreciation, as opposed to the value of shelter. Mr. Lys accounted
    for property taxes, spending on renovations, interest payments and the
    tax deductions on those payments, and the fact that most house
    purchases are made with mortgages.

    When the sale of a house brings in a cash windfall, homeowners tend to
    focus on the fact that they made a down payment that was just a
    fraction of their house's value, lifting their return. But many forget
    just how much money they spent on property taxes, a new roof and the
    mortgage interest.

    Add to all these factors the corrosive effect of inflation, and the
    returns are even lower.

    The Jacobses - she is an administrator for a magazine and he a lawyer
    - were quite pleased with the sale of their house in New Jersey. To
    them, it was a place to raise their two children more than it was an
    investment.

    When the couple spent about $100,000 to redo their master bathroom,
    install a walk-in closet and build a deck in the mid-1980's, Mr.
    Jacobs recalled saying to his wife, "We'll never get the money out
    that we put into this, but at least we'll enjoy it for 15 years or
    so."

    Told of the comparative returns on his house and the stock market, Mr.
    Jacobs said, "Of course I couldn't live in the portfolio."

    Today, however, he has come to see the advantages of the stock market.
    The Jacobses now rent an apartment on the Upper West Side for more
    than $4,000 a month and have invested the proceeds from the house sale
    in the stock market, making it easier for them to raise cash by
    selling shares.

    "I didn't want to take the money that we pulled out of the house and
    have all that money tied up in an apartment where I still have
    expenses of maintenance fees," Mr. Jacobs said.

    But many people seem to be going in the opposite direction from the
    Jacobses. Eighty percent of Americans deemed real estate a safer
    investment than stocks in an NBC News/Wall Street Journal poll done
    this spring, while only 13 percent said stocks were safer.

    Part of that sentiment is driven by the recent memory of the stock
    market collapse in 2000. Many homeowners seem to have forgotten that
    less than 15 years ago house prices in the Northeast and California
    fell, but the money they lost on technology stocks is still fresh in
    their minds.

    Stocks are also more volatile, and their price changes can be viewed
    every day. "The news doesn't report to you daily that your house price
    might have gone up or down," Mr. Lys said. "So you think your house
    price is more stable than it really is because you don't observe these
    minute-by-minute gyrations."

    Economists caution that any comparison between real estate and stocks
    is tricky, because real estate is typically a leveraged investment, in
    which a home buyer makes a down payment equal to only a fraction of a
    house's value and borrows to finance the rest. While it is possible to
    borrow money from a brokerage firm to buy stocks, most individual
    investors simply buy the shares outright.

    When home prices are rising, the leverage from a mortgage lifts real
    estate returns in the short term. Someone putting down $100,000 to buy
    a $500,000 home can feel as if the investment doubled when told that
    the house is now worth $600,000.

    But the power of leverage vanishes as homeowners pay off the mortgage,
    as the Jacobses have. Leverage also creates more short-term risk,
    especially for those who have stretched to afford their house.

    "If the home went down by 30 percent, you'd probably be sitting with a
    bankruptcy attorney," said Jonathan Golub, United States equity
    strategist at J. P. Morgan Asset Management in New York. "If your
    I.B.M. stock goes down by 30 percent, no big deal. So you had
    $100,000, now you have $70,000. You don't declare bankruptcy; you just
    don't go out to the movies as much, or you retire a year later."

    But such risks are hard to imagine when many markets are still
    enjoying double-digit percentage increases every year. The number of
    people buying houses they do not plan to live in has surged. There are
    also Internet exchanges where investors can trade yet-to-be-built
    condominiums or futures contracts tied to average home prices in big
    metropolitan areas.

    But economists and investment advisers say that most of the value from
    real estate comes not from anything that can be captured by flipping
    it, but from the safety net it provides in bad times. Even if the
    market shifts downward, "you have a roof over your head," said
    Jonathan Miller, a real estate appraiser in Manhattan.

    Beyond the shelter it provides, the biggest advantage of real estate
    might be that it protects people from their worst investment
    instincts. Most people do not sell their house out of frustration
    after a few months of declining values, as they might with a stock.
    Instead, they are almost forced to be long-run investors who do not
    try to time the market.

    Harlan Larson, a retired manager of car dealerships near Minneapolis,
    still regrets having bought Northwest Airlines stock at $25 a share a
    few years ago. It is now trading at less than $5.

    By comparison, he views the four-bedroom home he bought for $32,500 in
    1965 - or about $200,000 in today's dollars - as a money tree. He and
    his wife recently listed it for $413,000. That would translate into an
    annual return of 1.2 percent, taking into account inflation and the
    cost of two new decks and an extra room.

    They plan to move to Texas after it has sold. "I wish I'd bought more
    real estate," Mr. Larson said.