Too often, the media portrays owning your home as "The American Dream." There are a large number of advantages to renting over owning. In fact, historical evidence shows that money goes much further in stocks than it does in real estate.
Yale economist Robert Shiller, one of the world's most respected experts on the study of home values, analyzed home prices over the last century and discovered that home values only rise at about the same rate as inflation. This view is also shared by USC Economics Professor Robert Bridges.
Rather than sinking $100,000 into a house which only keeps up with inflation, it is far more productive to put $100,000 into an index fund which has historically risen at a faster rate than inflation even before including dividends.
He believes renting is far better alternative to owning.
Maintaining ownership of a house comes with a cost. Homeowners still have to pay "rent" in the form of:
- Property Tax
- Mortgage/Interest (if applicable)
- Opportunity Cost (the amount invested in the house could have alternatively been producing gains in the stock market.)
That's big price to pay simply to maintain something you already own!
Buying a house in the first place also includes transaction costs (legal, real estate agent, title check, inspections, etc.) that often come to 7% to 10% of the cost of a house. So you are 7% to 10% down immediately. And then you pay another 7% to 10% when it comes the time to sell.
Besides the cost, there are other advantages renting has over owning:
- Renting comes with a lot more convenience. It is the landlord's responsibility to make necessary repairs, keep the driveway plowed, and keep the lawn mowed.
- Renting also makes you more mobile; it's easier to move quickly whether you find another job or have some other reason to move such as safety concerns, conflicts with neighbors, or changes in the neighborhood like construction.
- Real Estate is illiquid. If you need to quickly access cash during an emergency, you won't be able to get that money out of your home in a timely fashion. A house that is for sale can stay on the market without getting any offers for a very long time. By contrast, stocks are very liquid, can be sold at any time, and even produce dividends which can be either distributed as income or reinvested for further gains.
- Lack of diversification: Homeowners usually put a very large portion of their net worth plus debt into one asset. That's not just narrowing their investment to the housing market, it's narrowing their investment to one specific area of the housing market in one particular town and street.
To gain exposure to the housing market without losing liquidity and diversification, it may be better to look into a fund such as Vanguard REIT (VNQ) as an alternative to owning a physical house. However, it may be wise to stay clear of the housing sector altogether as we enter a period where interest rates have nowhere to go but up, and the Federal Reserve has announced intentions to raise interest rates next year. Rather than investing in real estate (whether it be in the form of REITs or in the form of physical housing), it may be far more productive and simple to invest in a standard broad-market index fund such as (VTI) or (SPY).
One of the key investing principles should be simplicity. Buying a house creates complexity and headaches. This complexity is completely unnecessary and inconsistent with intelligent investing principles. Buying a home createsunnecessary complications, doesn't produce worthy returns on investment, and narrows your diversification. Renting is a much more efficient and effective alternative to home ownership. Due to these reasons, a house has no place in anyone's portfolio. It is never a good idea to buy a house outright, let alone borrow money for it.