Feel Good About Your Home, There’s Always Your 401K

by Redfin Blogger | 5 Comments

dow-jones-industrial-average.jpg 

Source: BigCharts.com

For the last eighteen months or so, we’ve all been lamenting over the drop in home values, which at least in principle, translates to a drop in net worth.  For example, if your home loses 20% of its value and is now worth $50,000 less than it was in 2006, does that mean that you are now $50,000 in the hole?  Perhaps…but has the true value of your home really changed for you?  Sometimes it’s hard to maintain perspective. After all, a home to live in provides benefits that greatly outweigh even the most generous of cash dividends paid when you own stocks. 

That said, people still consider their home equity to be a vital component of their total net worth. So how does your home investment compare to how you would have done if you had put that same amount of money into the stock market over the last decade? Using the most recent quarter of data for the Case-Shiller Index, housing prices in the Seattle have gone up by 195% over the last ten years. In comparison, the Dow Jones Industrial Average (DJIA) since October 1998 has been flat. Nada. Ziltch. Exactly zero. ( DJIA closed at 8452 on 10/19/1998 )

What’s the point? Maybe it’s just not as bad as you think. Maybe you should even feel good about your home, even with the recent declines in value.  Real estate has provided a great diversification strategy, buffering total household net worth from complete devastation in the turbulent times we see around us today.

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  • Jason

    That’s a bit misleading to say that the Dow has been totally flat since 1998. Had you invested in the Dow 30 ten years ago, you still would have earned dividends on a regular basis. At 3% dividends over 10 years, you still would have doubled your money. That is, your shares would be worth about the same, but you’d have many more of them.

  • demo kid

    Not only that, but to get 195% appreciation from a house over 10 years, you need to pump money into it for maintenance and even renovation in some cases. Housing is an asset, yes, it’s an important component of a household’s total new worth, but it is not a great investment unless you get very, very lucky.

  • Michael P Lindekugel

    I agree with Jason. Investor yields or return on capital from the financial markets include several components. The assets have a capital growth component and a dividend component. An increase of 195% over ten years is an annual increase of about 11.4% ignoring the inherent flaws in the Case-Shiller Index. Further, the study also fails account for all the cash flows associated with home ownership which contribute negatively and erode the homes yield or appreciation.

    A few real estate professionals and lenders can be blamed for part of the problem. In the 1970s, there was a research study that concluded a home is the biggest asset for most retirees. A few lenders and agents spun the study into marketing material with the message buy a home as an investment for retirement. The second study from the 1990s concluded homeowners are wealthier than renters. The report mentioned that disciplined renters could be just as well off or better from investing the differential cash flows. Decisions carry an opportunity cost. A few lenders and agents spun the study into marketing material with the message invest in your home for retirement because renting is waste of money.

    A few lender and agent marketing machines continue to quote both studies out of context while forgetting relevant information from the studies. Lenders are famous for using the rent vs buy calculator and talking about the tax benefits of the interest deduction. About 99% of the calculators I run across are flawed. They fail to account for all the necessary cash flows, opportunity costs, tax implications, etc. Many homeowners do not itemize their deductions, so there is no tax benefit from the interest deduction.

    America is a society of consumerism. They bought into the “your home is an investment” for retirement garbage. Instead of saving the equity for retirement most Americans refinanced and spent the equity on cars, trips, gadgets, over priced single family home rentals, etc from 2005-2006.

    Any agent or lender who says a home is an investment doesn’t understand basic finance, economics, and discounted cash flows analysis. Owning a home is a choice to own shelter instead of renting shelter. A home is not an investment grade asset. Over a lifetime of home ownership the after tax return on capital amounts to about 4%-5%.

  • anne

    I agree with Michael.

    I saved this article 3 years ago (when the real estate market was still booming) and still read it from time to time. http://tiny.cc/39hg7

    It’s fitting for this discussion.

    My home is shelter, it’s not an investment. It will only become an investment when I decide to sell it, rent a place to live and invest the proceeds from the house in the stock market.

  • http://seattle.redfin.com/blog/author/katrina.munsell Katrina Munsell

    All great comments–I appreciate the thoughtful discussion!

    The current 30 year T-Bill yield is 4.5% (http://www.bloomberg.com/markets/rates/index.html). If you can get the same return as a 30 year US government bond and have the security of living in the same home for 30 years you can’t be that far off of a decent investment. My point is to highlight that diversification of your net worth across different investment classes is a prudent thing, as can now be demonstrated with the stock market losing 40%+ of its value in under one year.