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Thinking about housing lately. It's accepted wisdom that getting on the property ladder is the best way to set yourself up for life. The best investment you'll ever make...
Obviously, that's not always the case. Plenty have just FOMO bought homes at the highs to prove that point. They've been sitting on an illiquid debt trap ever since interest rates rose. But hey, at least they're on the ladder right?
So, is owning a home really the best investment you can make? As usual, the answer is simple 👇
Morgan Housel covered this superbly in his recent post: "the art and science of spending money" 👇
An underappreciation of the long-term cost of purchases, with too much emphasis on the initial price.
It’s common to find someone who bought their home in, say, 1974, for something like $60,000. Today it’s worth perhaps $350,000. The owners no doubt feel they have made the investment of their lives.
But those numbers above equate to an average annual return of 3.75%. Property taxes tend to average roughly 1%, so that brings our real return to 2.75% per year. Maintenance and repairs vary greatly, but spending 1% - 3% of your home’s value per year on upkeep should be expected.
Where does that leave our long-term returns? Ah, quite dim.
Price is easy to calculate. It’s just whatever you paid initially and sold for eventually.
Cost is harder to figure out. They tend to be a slow drip over time, which are easy to ignore but add up quickly.
Same as anything really. Buy a house for one price and sell it for a much higher price, it looks like a great investment.
But investments are valued/judged relative to each other. If you bought a house in a street of identical properties and ALL of those homes have appreciated by the same amount, then was it truly a good investment?
Especially when you consider the opportunity cost of putting that money to work elsewhere instead... 👇
Analysis by Brewin Dolphin shows that somebody who invested £100 in the stock market in 1986 would have accumulated a total of £1,755 to date, through a combination of capital gains and dividends – profits paid out each year by stock market listed companies.
That same sum invested in a buy-to-let property would have produced a return of £739, a relatively modest return of 639%, through a combination of capital growth and rental income.
Nevertheless, many people still love the fact that property is a tangible asset; something they can see and touch, as opposed to stocks and shares, which many people regard as more complex, and risky.
Housing is special. It's the place we put down roots, raise families and all the rest of it. But it's not always a good investment.
Nor is climbing the housing ladder always a good idea. Bigger and better isn't always best! Once you're off the bottom rungs of studio flats and smaller apartments, opportunity costs increase.
Why tie up even more capital in a bigger, better property?
Nobody's saying don't have nice things. Just don't kid yourself that constantly upsizing in the property market is the best way to grow wealth.
Think about it from a retirement perspective. If you tie up all of your cash in your home, it's generating no cash flows, no income. It's just paper wealth, sat there, existing on a balance sheet rather than the real world.
To realise those gains into money you can actually spend, you need to sell and downsize (don't get me started on equity release or reverse mortgages).
In practise that's often hard to do without taking a lifestyle hit.
If you downsize in the same area, the required step down in property size or quality to release sufficient capital could be a larger sacrifice than you want to make...
Or you can move to a different (cheaper) area of the country, which can also be less than ideal.
This is crazy, right? I mean, if rental costs are higher than a mortgage payment each month, it seems like a ridiculous decision to deliberately 'choose to pay more'.
Think relatively. If you need 100k for a deposit, that means you're taking that 100k and NOT investing it in markets, NOT generating those compounding returns...
Presuming that 100k generates 10% annually, what's the better choice? Save 200 per month on rent or generate (on average) 833.33 each month via investments?
Then there's the interest you pay on the mortgage to consider as well.
When you dig into it, property ownership isn't such an easy and obvious choice, especially from an investment perspective.
There will always be tradeoffs.