simulating wealth building effects of home ownership

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elb2015
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simulating wealth building effects of home ownership

Post by elb2015 » Tue Dec 06, 2016 9:38 am

Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!

Rodc
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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 9:40 am

Why?

.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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slayed
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Re: simulating wealth building effects of home ownership

Post by slayed » Tue Dec 06, 2016 9:49 am

You are starting with the premise that home ownership builds wealth, and that is not always the case.

Valuethinker
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Re: simulating wealth building effects of home ownership

Post by Valuethinker » Tue Dec 06, 2016 9:56 am

elb2015 wrote:Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!
What you would need to proxy it is a proxy for home equity.

That's not easy to construct. Despite Shiller-Weiss's efforts, I don't think there are long term residential property derivatives (futures, options or swaps) on different US residential markets or the national average?

In actual practice, the long run real return on *homes* is negative. That surprises us because we tend to underestimate the long term costs of maintenance and refurbishment plus costs like property taxes. But I can look at my parents' house (been in the family 50 years and not significantly improved in the last 30) and see the fall in value relative to fully renovated on the same street.

Land does appreciate, but only slowly in most jurisdictions-- less in fact than population growth. If you live in London/ NYC/ San Francisco/ LA etc. you can only shrug, because property values have risen far faster than inflation in the last 40 years. So it's not a diversified form of wealth.

The reason housing equity is such a lousy investment is because it also provides you with services-- a place to live, and the psychic enjoyment of ownership (which can be considerable). Therefore from an economic point of view, that return is compensated for by a lower price return. There are also some important tax subsidies to home ownership (in the UK and Canada, for example, capital gains on homes is not taxable, however there is no mortgage interest deduction). Those probably get priced into your entry cost, so you don't really benefit from them.

You could proxy it with REITs. But REITs:

- are commercial RE, which is different (apartment REITs might be closest)
- have their own pricing and return cycles
- have disadvantages for an American re taxable location
- make use of financial leverage, and you can't control that (I am ignoring Mortgage REITs in this)

So your savings plan:

- is a good, low risk one if you plan eventually to buy a house somewhere
- doesn't proxy for owning a home, until you buy one

SouthernCPA
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Re: simulating wealth building effects of home ownership

Post by SouthernCPA » Tue Dec 06, 2016 10:01 am

Why even go through the effort of trying to "simulate" the performance of real estate? Just invest as much as you can into your current investment regimen.

mak1277
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Re: simulating wealth building effects of home ownership

Post by mak1277 » Tue Dec 06, 2016 10:12 am

I've never built any wealth from any of the homes I've owned. I would just invest in your normal asset allocation rather than complicating things.

KlangFool
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Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 10:19 am

elb2015 wrote:Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!
elb2015,

<<I was thinking about just working back from our rent. Assuming our rent is $3K/month, >>

Assuming that you can put 20% down payment and 30 years fixed rated mortgage, your PITI is $2K per month, you save 3K - 2K = 1K. Hence, you make 1K per month.

If you buy a house with PITI greater than rent, you are gambling on the house appreciation to break even. It may or may not work out.

KlangFool

Rodc
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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 10:28 am

KlangFool wrote:
elb2015 wrote:Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!
elb2015,

<<I was thinking about just working back from our rent. Assuming our rent is $3K/month, >>

Assuming that you can put 20% down payment and 30 years fixed rated mortgage, your PITI is $2K per month, you save 3K - 2K = 1K. Hence, you make 1K per month.

If you buy a house with PITI greater than rent, you are gambling on the house appreciation to break even. It may or may not work out.

KlangFool
Or you are simply willing to pay more because of the intangible benefits. If so, though, do so with eyes wide open.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 10:30 am

Rodc wrote:
Or you are simply willing to pay more because of the intangible benefits. If so, though, do so with eyes wide open.
Rodc,

In those cases, do not kid yourself that the house is an investment. It is purely an expense.

KlangFool

orca91
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Re: simulating wealth building effects of home ownership

Post by orca91 » Tue Dec 06, 2016 10:38 am

It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.

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Re: simulating wealth building effects of home ownership

Post by AlohaJoe » Tue Dec 06, 2016 10:45 am

Home ownership is built with massive leverage, which makes it hard to replicate.

Rodc
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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 11:00 am

KlangFool wrote:
Rodc wrote:
Or you are simply willing to pay more because of the intangible benefits. If so, though, do so with eyes wide open.
Rodc,

In those cases, do not kid yourself that the house is an investment. It is purely an expense.

KlangFool
That is what "do so with eyes open" means. :)
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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Watty
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Re: simulating wealth building effects of home ownership

Post by Watty » Tue Dec 06, 2016 11:34 am

There are three main reasons that owning a home works out well for many, but not all people.

1) With a 20% down payment you are using 400% leverage so that any gain in home price, even if it is just inflation, will be greatly magnified. That also works the other way and any drop will also be magnified which is why many people were wiped out in the housing bust. Current house prices are based on people being able to get mortgages in the 3% range so I would expect considerable pressure on home prices if interest rates go up a lot.

2) They can own a house for less than they would pay in rent so that frees up other cash. Even if owning is more expensive when you buy a house it could be less than renting in a few years if there are moderate rent increases and you have a fixed rate mortgage

3) There mortgage rate is less than the inflation rate. It had been a long time since this has happened but my parents had a mortgage at about 3.5% during the double digit inflation years of the late 1970's. Part of the "housing is a great investment" culture comes from older people that did well in housing because of this.

Even having a rental property in the lower cost of living ares where you live now would not get you all of these and that would be a lot of work to manage a long distance rental.

You need to keep in mind that over the long term the typical price appreciation of a house is nearly negative 100% but there will of course be exceptions. With the way houses have been built since the 1950s subdivision boom by the time they are 100 years old they will be very tired buildings if they even make it that long. The land will still have some value but the cost of tearing down the old house may be more than the value of the land so the property could even have negative value in some cases. Even if a particular house is will maintained if it is in a subdivision of 100 year old houses the rest of the subdivision may not have aged well.

One of my pet peeves when people that talk about housing is that people might say something like(in made up numbers) "The average house in Portland cost $30,000 in 1990 and the average house in Portland is now $300,000 so home prices have gone up ten times." The problem with that is that in 1990 the average house might have been built in 1975 and have 1,400 square feet. In 2016 the average house might have been built in 2000 and have 2,400 square feet. That 1975 house with 1,400 square feet will be worth far below the average home price.

This is not to say that owning a house is a bad choice, it is just that over the long term the vast majority of the value of a home comes from getting to use it or the income from renting it out.

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bligh
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Re: simulating wealth building effects of home ownership

Post by bligh » Tue Dec 06, 2016 11:46 am

Hi elb2015,

I like your plan. However I would spread it out into a wider allocation. Perhaps something conservative like 50/50 or so. The Vanguard Tax managed balanced fund (VTMFX) comes to mind. Perhaps augment that with a state specific muni bond fund if applicable to your situation.

I too would want to keep track of the money in a separate account so I could watch it grow, and keep account of how much has accumulated over time. Call it your housing fund. Use it for a purchase in the future, use a 3 to 4% withdrawal rate from that account to pay for or subsidize rent, etc.

Best,
bligh

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Re: simulating wealth building effects of home ownership

Post by Valuethinker » Tue Dec 06, 2016 1:16 pm

slayed wrote:You are starting with the premise that home ownership builds wealth, and that is not always the case.
In fact, we pretty much know it does not. Even setting aside the lesson of the terrible bubble bust the US has just been through.

In that:

- real housing prices have lagged inflation (or barely kept even) over the long run (however it may be, due to changes in the economy, and increased restrictions on development, that that pattern is broken for certain key (mostly coastal) parts of the USA and equivalent parts of other countries eg NYC, SF Bay area etc.). But where we have data, they have pretty generally done so for periods up to centuries, despite all the economic and technological change and wealth that has been created since then

- there seems to be a declining premium over time for distance to city center. In other words (and this is very clear in the commercial RE data) changes in technology and infrastructure (the rise of airports over trains; passenger vehicles over mass transit and then the interstate highway system; perhaps broadband & self driving cars?) have made living further from the center more viable

- the US does not have declining demographics (unlike most developed countries) but population growth will likely be slower in the future than in the past in the USA (in percentage terms) due to smaller families and less immigration

- structures depreciate. Land value rises over time -- but see factors above

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Re: simulating wealth building effects of home ownership

Post by Wellfleet » Tue Dec 06, 2016 1:36 pm

Why not just invest in a REIT? Am I missing something? If you want to simulate the effect, makeyour rent plus this investment equal to your housing percentage.

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Re: simulating wealth building effects of home ownership

Post by randomguy » Tue Dec 06, 2016 2:05 pm

orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.

That being said the OP is overthinking it. You choose to buy your housing by renting versus buying and then invest the rest. Trying to simulate the effects of owning a something that is leverage up 4x and tends to increase at about 1% real is just adding complexity.

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Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 2:10 pm

randomguy wrote:
orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.
randomguy,

It is very simple. Do not try to predict. Only buy when it is absolutely positive that it is cheaper than renting.

KlangFool

Valuethinker
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Re: simulating wealth building effects of home ownership

Post by Valuethinker » Tue Dec 06, 2016 2:14 pm

Wellfleet wrote:Why not just invest in a REIT? Am I missing something? If you want to simulate the effect, makeyour rent plus this investment equal to your housing percentage.
Tax would be an issue. You need enough tax deferred account space.

It is the leverage in home investing which produces the higher returns. And also the higher risk.

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Re: simulating wealth building effects of home ownership

Post by randomguy » Tue Dec 06, 2016 2:51 pm

KlangFool wrote:
randomguy wrote:
orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.
randomguy,

It is very simple. Do not try to predict. Only buy when it is absolutely positive that it is cheaper than renting.

KlangFool
By that rule pretty much no one can buy. Serious there is no way to be positive that you will be alive in 6 months much less living in the same house. Getting much above 95% is hard for most people. Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run

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Re: simulating wealth building effects of home ownership

Post by nisiprius » Tue Dec 06, 2016 3:15 pm

There are no magically-good "wealth building effects of home ownership." Buying a house is very expensive and salespeople selling anything expensive like to frame it as if it were an "investment."

It is complicated and difficult to assess the financial effect of owning a house (don't use the word "home," especially if we want to think of it as an investment).

The complexity and uncertainty give salespeople an opening to point out all the wealth building effects of house ownership, while not dwelling on any potential wealth-destroying effects of house ownership. The salespeople are probably correct in the limited sense that buying a house is not as expensive as it seems, and there is probably more justification for calling it an "investment" than an investment in an expensive car, an expensive watch, or an expensive diamond ring. Yes, there's a modest but worthwhile tax break on the mortgage if you itemize; I can't recall ever hearing a realtor mentioning that there isn't if you don't itemize. And it's not that big--it's not as if the government were going to effectively pay for your house or anything like that.

The main way to "simulate the wealth building effects of home ownership" is to estimate what your mortgage payments would be if you owned a home, and what part of those mortgage payments would go into building equity in the house... and then just save that amount of money... above and beyond what you'd be saving for retirement anyway... instead of spending it. For example, using this calculator I get this:
Image

So, in this case, the way you'd "simulate the wealth building effects of home ownership" is to set up some automatic method of taking 42% of 1,432 = call it $600/month, and save it.

How you save it matters less than the fact that you do save it.

According to this article, the real rate of return on home ownership in the U.S. from 1975 to 2009 was -0.575% per year. That's real return, meaning it fell that far short of inflation. The reason why this is important is that many conservative investments with far lower risk than home-ownership-viewed-as-investment do as well or better than this. If you can just salt away that home equity money into just about anything at all, including series I savings bonds, shop-around-for-a-decent-one bank CDs, or bond mutual funds, you will be in the same "wealth building" ballpark as owning a home.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

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Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 3:21 pm

randomguy wrote:
KlangFool wrote:
randomguy wrote:
orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.
randomguy,

It is very simple. Do not try to predict. Only buy when it is absolutely positive that it is cheaper than renting.

KlangFool
By that rule pretty much no one can buy. Serious there is no way to be positive that you will be alive in 6 months much less living in the same house. Getting much above 95% is hard for most people. Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run
randomguy,

<<By that rule pretty much no one can buy.>>

I bought my current townhouse. It is 20% to 30% cheaper to buy versus rent.

<< Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run>>

Most of my "House Poor" peers got themselves into trouble with this kind of thinking.

KlangFool

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Re: simulating wealth building effects of home ownership

Post by liberty53 » Tue Dec 06, 2016 3:23 pm


Rodc
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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 3:57 pm

randomguy wrote:
KlangFool wrote:
randomguy wrote:
orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.
randomguy,

It is very simple. Do not try to predict. Only buy when it is absolutely positive that it is cheaper than renting.

KlangFool
By that rule pretty much no one can buy. Serious there is no way to be positive that you will be alive in 6 months much less living in the same house. Getting much above 95% is hard for most people. Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run
Right. That rule does not work very well most places. If it does where one lives, great. But I buy stocks even though it is never absolutely positive that stocks will go up, and they do not even provide shelter. Buy a house if you can afford it and you want one, as long as the price vs rent is at least reasonable. You may or may not make money but if you like your house who cares.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

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Re: simulating wealth building effects of home ownership

Post by Nestegg_User » Tue Dec 06, 2016 6:03 pm

To simulate the effect: every few years take about 3-5k out of savings and burn it, and ever 12-15 years increase that to 10-12k. (It may be more in HCOL areas or areas that have high cost of labor. )

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Re: simulating wealth building effects of home ownership

Post by bigred77 » Tue Dec 06, 2016 6:17 pm

elb2015 wrote:Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!
Take an amount equal to the downpayment you would have available, plus the extra 1,300 a month, and put in a taxable account that you label/name "home equity equivalent" and put 1/3 each into a Muni bond fun, US TSM, and International TSM. Rebalance with new contributions. The higher expected return from the portfolio might offset the leveraged return on the property if held long enough. It's a good approximation.

Remember to ignore the daily account balance fluctuation and mentally assume your portfolio is nicer/more unique/more stylish than your neighbors portfolio so obviously your's would sell for 10% more if you needed to liquidate it. :mrgreen:

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Re: simulating wealth building effects of home ownership

Post by randomguy » Tue Dec 06, 2016 6:29 pm

KlangFool wrote:
randomguy wrote:
KlangFool wrote:
randomguy wrote:
orca91 wrote:It's always an expense.

OP, just pay the rent and save/invest the extra each month as you always would. No need to try and simulate the housing market.
The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.
randomguy,

It is very simple. Do not try to predict. Only buy when it is absolutely positive that it is cheaper than renting.

KlangFool
By that rule pretty much no one can buy. Serious there is no way to be positive that you will be alive in 6 months much less living in the same house. Getting much above 95% is hard for most people. Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run
randomguy,

<<By that rule pretty much no one can buy.>>

I bought my current townhouse. It is 20% to 30% cheaper to buy versus rent.

<< Buying is pretty much always cheaper than renting if you get to the long term (5-15+ years) so being too conservative costs you money in the long run>>

Most of my "House Poor" peers got themselves into trouble with this kind of thinking.

KlangFool
When you bought your house how did you know
a) Prices weren't going to drop 20% and stay there for 20 years making renting much cheapier
b) you, your spouse, or any kids were not going to have an issue (imagine you kid was in accident and the best specialist was 1k miles away) require you to move?
c) You wouldn't get a great job opportunity requiring you to move?
d) stocks were going to go up 17x over the next 17 years making the opportunity cost of buying very high

Those are all things that are unknowable. You make predications and educated guesses and hope things work out. Your choice to buy sounds like it did. Your coworkers made the same choice to buy and things didn't work out. It wasn't the choice to buy that mattered. It was what they bought.

For most people if the cash flow between renting and buying is similar (factoring things like maintenance, tax savings, opportunity costs,...) and they expect to be there for 7+ years, the odds are really stacked in favor of buying. But they are just odds.

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Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 6:46 pm

randomguy wrote:
When you bought your house how did you know
a) Prices weren't going to drop 20% and stay there for 20 years making renting much cheapier
b) you, your spouse, or any kids were not going to have an issue (imagine you kid was in accident and the best specialist was 1k miles away) require you to move?
c) You wouldn't get a great job opportunity requiring you to move?
d) stocks were going to go up 17x over the next 17 years making the opportunity cost of buying very high

Those are all things that are unknowable. You make predications and educated guesses and hope things work out. Your choice to buy sounds like it did. Your coworkers made the same choice to buy and things didn't work out. It wasn't the choice to buy that mattered. It was what they bought.
randomguy,

<<a) Prices weren't going to drop 20% and stay there for 20 years making renting much cheapier>>

It might. But, I save money now and locked down my housing costs for the next 20 years.

<< b) you, your spouse, or any kids were not going to have an issue (imagine you kid was in accident and the best specialist was 1k miles away) require you to move? >>

Which is fine. But, I save money now.

<<c) You wouldn't get a great job opportunity requiring you to move? >>

Only if the job opportunity pays me well enough to compensate for the move. Then, it is not a problem. Or else, I will not be moving.

<< d) stocks were going to go up 17x over the next 17 years making the opportunity cost of buying very high>>

Not in my case. I improve my cash flow since I pay less than rent. Hence, I have more money to invest when I buy.

<<It wasn't the choice to buy that mattered. It was what they bought.>>

You are correct. They bought too much house.

KlangFool

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Re: simulating wealth building effects of home ownership

Post by KyleAAA » Tue Dec 06, 2016 6:56 pm

Use leverage.

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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 7:21 pm

bigred77 wrote:
elb2015 wrote:Hi. Family is moving to a HCOL area shortly. Turning 40 shortly.

Home ownership is not in the cards for us in the near future. We'd like to stay flexible and don't want a high percentage of net worth tied up in a personal home. How could we simulate the wealth building effects of home ownership with more liquid securities?

I was thinking about just working back from our rent. Assuming our rent is $3K/month, that is roughly equivalent to the interest portion of a $900K mortgage on a 30-yr fixed and then making a concurrent investment in a tax-free bond fund in the amount of whatever our principal portion would be in that hypothetical mortgage (around $1,300).

Might be overthinking this whole thing but wanted to put the question to the board. Thanks in advance!
Take an amount equal to the downpayment you would have available, plus the extra 1,300 a month, and put in a taxable account that you label/name "home equity equivalent" and put 1/3 each into a Muni bond fun, US TSM, and International TSM. Rebalance with new contributions. The higher expected return from the portfolio might offset the leveraged return on the property if held long enough. It's a good approximation.

Remember to ignore the daily account balance fluctuation and mentally assume your portfolio is nicer/more unique/more stylish than your neighbors portfolio so obviously your's would sell for 10% more if you needed to liquidate it. :mrgreen:
So, in other words, just take the difference and invest like you would anyway.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

Rodc
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Re: simulating wealth building effects of home ownership

Post by Rodc » Tue Dec 06, 2016 7:33 pm

nisiprius wrote:
According to this article, the real rate of return on home ownership in the U.S. from 1975 to 2009 was -0.575% per year. That's real return, meaning it fell that far short of inflation. The reason why this is important is that many conservative investments with far lower risk than home-ownership-viewed-as-investment do as well or better than this. If you can just salt away that home equity money into just about anything at all, including series I savings bonds, shop-around-for-a-decent-one bank CDs, or bond mutual funds, you will be in the same "wealth building" ballpark as owning a home.
The "analysis" in the article is no different, near as I can tell, from complaining that if you bought a bond just over par and when it matured you lost 0.6% a year while ignoring it paid 3.2% a year in coupon payments.

A house provides a monthly benefit just as a bond provides regular payment. And you can figure out that monthly benefit. It is what you would have paid to live somewhere else. Leaving out that value, the entire point for buying the house in the first place, makes no sense.

The benefits of home ownership are often overstated because people fail to account for the cost to maintain the house.

Others understate the value because they ignore the fact that you actually get to live in it.

Look, this is simple, most people who own houses that they rent out make money. That is why there is a rental market. Rental income beats the carrying cost, most often. Where this regularly fails is when people buy and sell too often. The profit margin for owning and renting out a house is not huge (if it were people would not buy houses to live in) so the cost of selling frequently burns up the profit. So, buying tends to make sense if you buy and live in the house long term (or rent it, same math). And, renting tends to make sense if you want to move often.

Of course those are generalities - the details of any particular local market may change the dynamics of any given house.
We live a world with knowledge of the future markets has less than one significant figure. And people will still and always demand answers to three significant digits.

NotWhoYouThink
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Re: simulating wealth building effects of home ownership

Post by NotWhoYouThink » Tue Dec 06, 2016 7:45 pm

Nearing_Destination wrote:To simulate the effect: every few years take about 3-5k out of savings and burn it, and ever 12-15 years increase that to 10-12k. (It may be more in HCOL areas or areas that have high cost of labor. )
Sounds about right.

Except for people who bought very early into what turned out to be hot markets, much of the wealth building effect of home ownership is behavioral, not financial. Kind of like permanent life insurance. There are much better ways to invest, but if buying a home keeps you from frittering your money away on other things, at least you've got something to show for it. The flipside is that many of the people who lost their homes in the great recession lost them because they had been using the homes as ATMs. So try to avoid that.

randomguy
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Re: simulating wealth building effects of home ownership

Post by randomguy » Tue Dec 06, 2016 7:57 pm

KlangFool wrote:
randomguy wrote:
When you bought your house how did you know
a) Prices weren't going to drop 20% and stay there for 20 years making renting much cheapier
b) you, your spouse, or any kids were not going to have an issue (imagine you kid was in accident and the best specialist was 1k miles away) require you to move?
c) You wouldn't get a great job opportunity requiring you to move?
d) stocks were going to go up 17x over the next 17 years making the opportunity cost of buying very high

Those are all things that are unknowable. You make predications and educated guesses and hope things work out. Your choice to buy sounds like it did. Your coworkers made the same choice to buy and things didn't work out. It wasn't the choice to buy that mattered. It was what they bought.
randomguy,

<<a) Prices weren't going to drop 20% and stay there for 20 years making renting much cheapier>>

It might. But, I save money now and locked down my housing costs for the next 20 years.

<< b) you, your spouse, or any kids were not going to have an issue (imagine you kid was in accident and the best specialist was 1k miles away) require you to move? >>

Which is fine. But, I save money now.

<<c) You wouldn't get a great job opportunity requiring you to move? >>

Only if the job opportunity pays me well enough to compensate for the move. Then, it is not a problem. Or else, I will not be moving.

<< d) stocks were going to go up 17x over the next 17 years making the opportunity cost of buying very high>>

Not in my case. I improve my cash flow since I pay less than rent. Hence, I have more money to invest when I buy.

<<It wasn't the choice to buy that mattered. It was what they bought.>>

You are correct. They bought too much house.

KlangFool

Let me translate your answers
a) I lost money compared to renting but am ok with it
b) I lost money compared to renting but am ok with it
c) I lost money compared to renting but am ok with it
d) I lost money compared to renting but am ok with it. Well unless you put 0 down:)

That is a lot different than saying only buy when you are positive that it is cheaper than renting. Unless you have insane levels of overconfidence (i.e. you ignore all the probabilities that you can be wrong), there is no way to know if it will be cheaper to rent or buy over your ownership period. You can't answer that question because it requires knowledge of the future.

KlangFool
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Joined: Sat Oct 11, 2008 12:35 pm

Re: simulating wealth building effects of home ownership

Post by KlangFool » Tue Dec 06, 2016 8:13 pm

randomguy wrote:
Let me translate your answers
a) I lost money compared to renting but am ok with it
b) I lost money compared to renting but am ok with it
c) I lost money compared to renting but am ok with it
d) I lost money compared to renting but am ok with it. Well unless you put 0 down:)

That is a lot different than saying only buy when you are positive that it is cheaper than renting. Unless you have insane levels of overconfidence (i.e. you ignore all the probabilities that you can be wrong), there is no way to know if it will be cheaper to rent or buy over your ownership period. You can't answer that question because it requires knowledge of the future.
randomguy,

Let's start over again. We are comparing

A) It is cheaper to buy versus rent now. Hence, I buy

versus

B) It is cheaper to buy versus rent if the rent goes up X% over Y number of years. Hence, I buy.

You are claiming that

C) A person should not buy based on current rent because rent may go down for the next 20 years.

<<d) I lost money compared to renting but am ok with it. Well unless you put 0 down:)>>

This was taken into account because the buy is 20% to 30% cheaper than rent. This was the safety margin.

KlangFool

randomguy
Posts: 6007
Joined: Wed Sep 17, 2014 9:00 am

Re: simulating wealth building effects of home ownership

Post by randomguy » Wed Dec 07, 2016 11:44 am

KlangFool wrote:
randomguy wrote:
Let me translate your answers
a) I lost money compared to renting but am ok with it
b) I lost money compared to renting but am ok with it
c) I lost money compared to renting but am ok with it
d) I lost money compared to renting but am ok with it. Well unless you put 0 down:)

That is a lot different than saying only buy when you are positive that it is cheaper than renting. Unless you have insane levels of overconfidence (i.e. you ignore all the probabilities that you can be wrong), there is no way to know if it will be cheaper to rent or buy over your ownership period. You can't answer that question because it requires knowledge of the future.
randomguy,

Let's start over again. We are comparing

A) It is cheaper to buy versus rent now. Hence, I buy

versus

B) It is cheaper to buy versus rent if the rent goes up X% over Y number of years. Hence, I buy.

You are claiming that

C) A person should not buy based on current rent because rent may go down for the next 20 years.

<<d) I lost money compared to renting but am ok with it. Well unless you put 0 down:)>>

This was taken into account because the buy is 20% to 30% cheaper than rent. This was the safety margin.

KlangFool
I am saying that you will not know if it is cheaper to buy or rent until you end the term. It is trivial to go 1k/month in rent versus 1.2k/year for a buying, rent is cheaper. But that is a far too simplistic to say renting is cheaper than buying. Simple example:
Out of college I could have rented a place for 1500 or bought one for 2500/month (ignore the fact the bank wouldn't loan me that amount of money). What was cheaper? Obviously buying. Why? Because the property was worth 200k more in 6 years. That 2.7k a month of appreciation was far more important than the extra 1k/month in extra payments. And that doesn't even factor my rent going from 1500 to 2.2k over that time frame. Obviously knowing the rapid appreciation (and rent) was unknowable at the time. That doesn't change the fact that buying was much cheaper than renting over the period I was there.

If you want to say only buy a house when it cash flows cheaper, we can debate if that is a good rule. But it is at least something that you can determine at the time you are making the choice. As I said only buy when it is cheaper than renting is unknowable as there are too many factors involved.

orca91
Posts: 1223
Joined: Thu Mar 03, 2016 7:17 pm

Re: simulating wealth building effects of home ownership

Post by orca91 » Wed Dec 07, 2016 11:51 am

Don't argue with Klanfool in these house threads... or, is it home? :happy It's fruitless.

Maybe someday we can get the admin to make a separate section of the forum called "Klangfool's rules of home ownership".

inbox788
Posts: 5271
Joined: Thu Mar 15, 2012 5:24 pm

Re: simulating wealth building effects of home ownership

Post by inbox788 » Wed Dec 07, 2016 1:58 pm

randomguy wrote:The question is the expense of owning a home more or less than the expense of renting. Figuring that out over 1 year is easy. Doing it over 30 years, is impossible.

That being said the OP is overthinking it. You choose to buy your housing by renting versus buying and then invest the rest. Trying to simulate the effects of owning a something that is leverage up 4x and tends to increase at about 1% real is just adding complexity.
If you want to leverage up, use a levered ETF like MORL (up 45% YTD!) or DRN.

As far as simulating home ownership, you could simply take the difference between your rent and mortgage cost/PITI (presumably higher) and put that amount in SP500 every month. Also, everytime the landlord provides a service (gardening, plumbing, painting, etc.), make a "payment" of that cost of the service into your "home equity fund".

KlangFool
Posts: 9500
Joined: Sat Oct 11, 2008 12:35 pm

Re: simulating wealth building effects of home ownership

Post by KlangFool » Wed Dec 07, 2016 6:44 pm

randomguy wrote:
If you want to say only buy a house when it cash flows cheaper, we can debate if that is a good rule. But it is at least something that you can determine at the time you are making the choice. As I said only buy when it is cheaper than renting is unknowable as there are too many factors involved.
randomguy,

I do not get it. When the PITI is 20% to 30% lower than rent, why it is not cash flow cheaper?

For example,

PITI = $1,800
Rent = $2,300

KlangFool

qwertyjazz
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Re: simulating wealth building effects of home ownership

Post by qwertyjazz » Wed Dec 07, 2016 7:07 pm

Houses are an automatic payment for many. If you would have spent the money on a newer car, clothes etc, then it is wealth building. IMO that is why it is the largest wealth building activity. Now if you are a disciplined investor, this does not apply to you. So if you read Bogleheads, then on average this may not apply to you. But for most people, home ownership builds wealth.
G.E. Box "All models are wrong, but some are useful."

MindBogler
Posts: 627
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Re: simulating wealth building effects of home ownership

Post by MindBogler » Wed Dec 07, 2016 9:04 pm

KlangFool wrote: In those cases, do not kid yourself that the house is an investment. It is purely an expense.
So is your rent. All you gain by renting is mobility -- even that is dubious if you have to move 6 months into a 1 year lease.

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