SURPRISE! Here’s The REAL Long-Term Return On Owning A Home: 0%

Jefferson Davis's retirement home in Biloxi, Mississippi

Short-term terrible housing news is no surprise right now, but the long-term thesis that residential real estate is a good investment is starting to crumble too.

Recent research from Wenli Li and Fang Yang (via Harvard Business Review) shows that the real rate of return on housing from 1975-2009 was actually negative.

From Li and Yang:

Assuming an annual depreciation rate of 2.5 per cent, a property tax rate of 1.5 per cent, a mortgage interest rate of 7 per cent, and a marginal income tax rate of 25 per cent for a typical taxpayer, the adjusted real rate of return on housing actually falls below zero (1.3-2.5-1.5+0.25(7+1.5))=-0.575 per cent! Remember that 1.3 per cent is the real rate of return of the national house-price index between 1975 and 2009. Meantime, under the 25 per cent marginal income tax rate for a typical taxpayer, the rate of return on stocks during the same period falls only to 4.5*(1-0.25)=3.375 per cent.

The report also details several other dangers in the current own-housing thesis:

  • Reduces mobility, making the labour market less efficient (in fact, British economist Andrew Oswald argues the higher the homeownership rate, the higher the structural unemployment rate)
  • Government support measures encourage house flipping by investors
  • Rising prices increase homeownership consumption in a disproportionate manner
  • Homeowners tap equity, rather than holding onto it as wealth

This not a big surprise. It’s actually similar to the point that the long-term expected returns on commodities is 0%, as has been pointed out by SocGen’s Dylan Grice.

In the end, what makes money is human ingenuity — building new things and creating value. Things like rocks, or a constructed house that’s wasting away every year in need of repairs is not where the money is.

Don’t miss: Why Gary Shilling thinks home prices will fall another 20% >