Real estate vs. Stocks long term: stocks win by a landslide?

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SimpleLife
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SimpleLife » Sun Oct 25, 2015 4:03 pm

One way to keep the advantage with real estate is to keep flipping it for more real estate as the value goes up, but before there are major capital expenditures. This is actually how you can turn a little into a lot, but there is MUCH risk. If you buy at a peak and then there is a downturn, you are stuck, especially with leveraged properties.

JL13
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by JL13 » Sun Oct 25, 2015 4:20 pm

SimpleLife wrote:the power of leverage wears off over time as the value of the house increases and the mortgage is paid down
That's not necessarily true though is it? What's to stop you from refinancing every 5 years or whatever? Every other company refinances their long term debt at regular intervals.

Stocks are leveraged too - if Coca Cola paid all it's long term debt when it came due and didn't refinance, the capital structure would change significantly and owner's profits would drop.

SimpleLife
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SimpleLife » Mon Oct 26, 2015 8:08 pm

J_L13 wrote:
SimpleLife wrote:the power of leverage wears off over time as the value of the house increases and the mortgage is paid down
That's not necessarily true though is it? What's to stop you from refinancing every 5 years or whatever? Every other company refinances their long term debt at regular intervals.

Stocks are leveraged too - if Coca Cola paid all it's long term debt when it came due and didn't refinance, the capital structure would change significantly and owner's profits would drop.

That is true, and many investors do that. You could also just 10-31 exchange your properties free from federal taxes (still owe state excise taxes) and keep reinvesting your profits into more and more property. This will keep you leveraged, but is also "work". It's easy work reading paperwork and providing digital signatures, but still work. And in a HCOL area like mine, you pay A LOT of money in transaction costs. If I sell the house I bought just over a year ago today, I will have paid 40K in transaction costs to buy and sell. That's after a gain of 35K in one year....

Plus keep in mind, refinancing is really only viable in certain situations. HCOL areas like mine are terrible for landlords unless you bought properties at bargain prices a few years ago. If I refinanced to say, a 6% rate a few years from now, it's unlikely that rents will have risen enough to justify the new payment. HCOL areas like Seattle are renters markets. It's by far cheaper to rent here than to own.

As far as Coca-Cola, true if a company restructures their debt, it can have an affect on the stock, but with a house it is a guaranteed effect if you hold. With stocks it's a maybe, and the effect will likely not be as pronounced when invested in say, an index fund.

JL13
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by JL13 » Mon Oct 26, 2015 10:14 pm

SimpleLife wrote:you pay A LOT of money in transaction costs...refinancing is really only viable in certain situations...it's unlikely that rents will have risen enough to justify the new payment.
I don't disagree with you in essence, but I don't think you're being consistent. If the rents don't rise...then you shouldn't have much property appreciation right? If the price-to-rent ratio is constant, and the rents don't rise...then the price doesn't increase either, right?

If rents do rise, then the value of your property should increase by approx 15X that increase....warranting a refinance. If the price goes way up but rents don't, I'd say take the tax hit and just sell. It's technically a windfall.

Transaction costs in real estate suck, I agree. But if you allow for some latitude in your capital structure. Say debt between 50% and 80% of property FMV, then you can minimize transaction costs by reducing frequency of refinancing.

1031 exchanges may only be worthwhile if you're in a high net worth range, at which point the cost is a very small percentage of the property value. at lower property values, you should be in a low enough tax bracket to be able to sell while still making an outsized profit...assuming the FMV exceeds intrinsic value by a good margin. If it doesn't, then don't sell, right?

SimpleLife
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SimpleLife » Mon Oct 26, 2015 11:26 pm

I'm not being inconsistent at all. Rents in my area are cheaper than the cost of owning. 3% of say 2k rent is only $2,060 in a one year increase.

6% interest on a 300k house has a larger payment increase than the inflation adjusted return on a small amount of rent. They don't increase proportionally to each other...the rates and dollar amounts are significantly different.

Again, I stand by my statememt. Rents may not rise enough to justify the new payment. Price to rent ratios in my area suck. It's cheaper to rent than own. Cost of owning rises faster than rents.

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Ego
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by Ego » Tue Oct 27, 2015 2:36 am

SimpleLife. Hats off to you for admitting this. I lost a good deal of money on a rental property back in the 1990s and it took me a long time to put the pieces together and figure out what went wrong. One of the difficulties I had was that nobody with experience actually says what you are saying out loud. I would get that itchy feeling when looking at the math but everyone was so gung ho about their successes that I figured I was missing something important. Stupid me. Those who enter the market today and win at real estate typically have some unique competitive advantage that they downplay or fail to mention when offering advice. On the other hand, you've been successful and you tell the truth. Thanks for that.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by 7Wannabe5 » Tue Oct 27, 2015 7:02 am

Well, I am planning on making an absolute killing on my real estate investments. Just yesterday I observed a bright shiny new giant play structure being installed in the park at the end of the block where I own vacant lots and chit-chatted with a young couple who were painting the front of an old building they bought to turn into a new coffee roastery right around the corner. I would buy more if my funds were not mostly sunk non-liquid into the rare book market. OTOH, based on a brochure I was browsing, I am also thinking the amaryllis bulb market might be ripe for the picking. Although, of course, one would want to balance that sort of investment with a more conservative play on hazelnuts and potatoes. OTOH, I have turned rather bearish on collectible Barbie doll futures these days. Disney rules. YMMV : )

Also, I would note that if you ever go through a really bad divorce and your spouse gets the house, you can then choose to move into half of your rental duplex yourself.

JL13
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by JL13 » Tue Oct 27, 2015 7:43 am

SimpleLife wrote:Rents may not rise enough to justify the new payment. Price to rent ratios in my area suck.
I understand what you're saying. If the prices are so high relative to rents there, I certainly wouldn't want to borrow MORE on them. Probably the opposite. That's not really a question of financing structure though. It just sounds like RE is not a compelling investment where you are.

I've struggled with that for a long time - in the nicer neighborhoods, as an investor, you are up against some dumb people(investment wise). They just don't view a principle residence as an investment. You are pricing properties based on ROI while everyone else is pricing them based on their paycheck. It's easy to be outbid by young professionals who are looking only at monthly payment and curtain treatments.

SimpleLife
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SimpleLife » Tue Oct 27, 2015 10:33 pm

I wonder what would happen if we evaluated most purchases or decisions based on ROI?

One would likely have more income producing assets than junk laying around.

wood
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by wood » Wed Oct 28, 2015 3:37 pm

I'd rather compare real estate investing to stock picking, because they both require a bit of work and skill, and possibly some luck with timing to succeed. Stocks and real estate come with a variety of different pros and cons that simply make them incomparable.

I have bought my real estate. When paid off it will cater for about 200% of my living expenses. Now I just focus on paying down the loan, which will take about 7 years or so. The interest rate is fixed at 2.75% for the next 5 years and if the buildings burn down I turn to the insurance company. The rent provides positive cash flow after loan downpayments. If all tenants move out I will use my salary to sustain the expenses. I work in the government, which is the safest job nowadays, atleast where I live. One month of no rent just means one month extra spent to pay down the loan. The risk of no rent is really low though. I'm insured against it and I also have the option of lowering the price and still come out ahead. Plus I have a baseball bat in case of any trouble. As far as appreciation goes, I couldn't care less. I'm never going to sell it.

See, there are a number of assumptions being made here that for me makes real estate work. I bought at a good price. I have a great network of agents, plumbers, handymen, family and potential future tenants. I couldn't possibly be in this same position with stocks. There is competitive advantage for me in real estate. Most investors who succeed in real estate have some sort of competitive advantage. You can't just splash the cash and wait for the returns.

Hence, incomparable. But I'm sure stocks do better on average. But that only matters for those who should avoid the real estate market.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by jacob » Wed Oct 28, 2015 5:48 pm

This is somewhat of a Pepsi Challenge or an academic exercise.

There are just too many unknowns to decide a winner here.

If you do want to argue for the sake of arguing, I suggest comparing indexes and otherwise leaving me out of it ;-) The preferred ones would be SP500 vs NAREIT since they are representative of real estate (residential and commercial) and the US stock market for someone who is price-insensitive and adding zero value in terms of information-interpretation.

(I presume we're talking US comparisons?! This is important, because single country results rarely generalize due to a combination of tax laws and cultural biases.).

Here's a graph. If you disagree, go find your own graph with some other starting years. I don't care. This is what popped up on google.

http://aimanagellc.com/wp-content/uploa ... t_perf.jpg

Yeah, it surprised me too! :o

Note that this is an index comparison. In either case, selective picking---where you're adding information-interpretation---may do substantially better (if you're smart) or substantially worse (if you're stupid) than either index in either product. So I guess what everybody should really ask themselves is what THEY THEMSELVES can beat whatever with; not what the average beats the average with. Isn't this obvious already?! :?

In particular, with residential RE in particular, people usually have access to way more leverage (sometimes up to infinity .. but Fannie Mae often offers 33x leverage from time to time with their 3% down loans) than they do in stocks (restricted to 2x since the great depression)... AND they get to do value-adding because they're usually a 100% owner rather than a 0.000001% owner as with most stocks.

In any case, as far as I'm concerned loyalty to an asset class for the long run is a foolish approach ... or at least that's how I see it---what I mean to say is that what's the point of picking something and sticking to it for multiple decades?!? Please convince me about the rationale behind this?! So that one only has to think for 10 minutes to prepare for the next 70 years? Hmmm ... I'm about 3 or 4 Wheaton levels away from this mentality. But that's okay. It's not like I've signed up for astronaut school about to embark on a trip to Saturn in a rocket with no radio built in :roll:

As far as I'm concerned ... 1.5 years ago I sold 1/3 of my stocks because I predicted (correctly if I may add) that the market would proceed to stagnate. I used that money to buy a house that has since then appreciated by 75% (if those silly online comparative sales data mining thingies are to be trusted.) I am happy about that. I'm even confident that it wasn't luck on my part. And that's saying a lot for a cynical scientist :-P

So ... I don't really care about what any one particular asset does the long run. Especially not when I'm able to change my mind in the medium run, eh? :mrgreen:

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SilverElephant » Sun Nov 01, 2015 8:10 am

jacob wrote:As far as I'm concerned ... 1.5 years ago I sold 1/3 of my stocks because I predicted (correctly if I may add) that the market would proceed to stagnate. I used that money to buy a house that has since then appreciated by 75% (if those silly online comparative sales data mining thingies are to be trusted.) I am happy about that. I'm even confident that it wasn't luck on my part. And that's saying a lot for a cynical scientist :-P
Could you explain the rationale that led you to the prediction that stocks would stagnate? I'm not foolish enough to believe that will enable me to reproduce that prediction, but perhaps I can learn something from having the reasoning explained to me. Would be much appreciated!

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by jacob » Tue Nov 03, 2015 2:00 pm

@SE - It's easy to rationalize in hindsight, but at the time, I was certainly aware of this:
Image

And that the end day of QE4 (aka QE infinity) was Mid November 2014. (The main driver of the stock market.)

I also knew that CAPE values at that time were at 25. (High risk.)

I also knew that if you let a CAPE of 25 mean revert (along with high margins) and account for dividends and 6% YoY growth in US corporate earnings (non leveraged .. the 10% comes from leveraging with corporate debt, typically by 40% equity/asset, so 6%/(1-0.4) ~ 10% yoy) ... then projected returns for the next ten years were (and are) just about 0%/year. (Low returns.)

This was the reason for my initial sell-of of stocks (instead of e.g. bonds or gold).

Later I got lots of confirmations. The market did indeed go sideways after QE. It became common knowledge that all QE ever did was to make wealthy people wealthier. It also turned out that in 2015 most buyers have been corporate buybacks(*) and foreign central banks (who can and will legally buy US stocks) while most sellers were active managers and retail investors (e.g. non-passive).

(*) That's a whole other story and strong confirmation right there.

Note that neither of these can be taken as a isolated signal alone and thus the conclusion from naive statistical analysis would be a null result. The conclusion from such a null result would be that I was just lucky by simultaneously being right about 3-5 things at once. This would be a high-sigma event if seen through a random-walk lens. However, if you put everything together with some critical thinking, it makes for a coherent and predictive model. So that's essentially how I invest.

The reason for buying the house was not that I believed that RE would outperform but simply that local NAVs were much below rent. Also the neighbors upstairs were getting exasperating getting up and trampling around at 5am every morning. The area we bought in has a high rate of immigrant/subprime in a traditionally blue collar (deeply networked, everybody knows each other) and thus has a foreclosure rate at 6x above normal. Clearing those out was what eventually lifted the prices. But I had no idea about the timing there. All I was fairly sure of was that prices wouldn't/couldn't go much lower. Incidentally, we caught our house nearly at the bottom of the evaluation curve.

Subsequently I saw a divergence between how well the economy was actually doing (employment numbers, note, not unemployment numbers which are near meaningless) and the official story about the economy which spoke of a recovery. A recovery would mean that rates should go up and thus anyone who has borrowed USD would need to pay them back shortly. This caused the USD to go up relative to other currencies as most jumped on the official story. Since I was sure (and so far so good) that the economy was not recovering and thus any rate hike would be delayed for much longer, I sold USD (effectively by buying foreign stocks and ETFs). This was also a correct call. Except .. I was mainly investing in the Chinese supply chain (mining, shipping, and banking) and as China cratered(*), this pretty much cancelled out my correct call wrt the dollar. So from a stock perspective, since late 2014, I've gone nowhere (flat) just like stock index buy and hold investors ... but for different reasons.

(*) In retrospect this should have been obvious (mea culpa) since its main customer (the US consumer) was struggling.

Note how the new model in the last paragraph) is less coherent than the first one and thus not nearly as powerful. Also that a key ingredient was missing. Again, naive statistics would not have caught this. In conclusion, my way of reasoning is to invent or find a model for the current situation (over the next few years) and compare it to the generally accepted model. Then determine which is stronger. When these diverge and the alternate model is stronger, yippie-skippie. I make outsized returns. If not, I try to go with the general model and ride the tide that lifts all boats. Note, however, that it only takes one "bad leg" to knock me down to average. And if I had been wrong about two things simultaneously, I would have underperformed.

This exclusive presented for entertainment purposes only. So I hope that was entertaining :)

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by SilverElephant » Tue Nov 03, 2015 4:40 pm

Thanks a lot for that explanation. As expected, I don't think I'll be able to generate one of these on my own for quite some time :) as shown by the fact that I'd read about a lot of those factoids, but failed to put them together.

I can definitely relate to the reasoning about putting together a model and testing/evaluating it against reality. In essence, the scientific method...

If I understood you correctly, though, then (statistically) the stock market is expected to revert to a mean CAPE of 16 over the next few years, albeit with swings, as always.

One thing though: letting the CAPE revert while accounting for dividend and YoY growth... how does growth fit in with CAPE regression? (Stock) prices plummet but earning don't, or bottom out earlier, or keep growing, right? Prices are basically a vote on value and may fluctuate? So CAPE should fall while earnings may still grow, statistically. In essence, stocks should go on sale as they have done in the past. I'm just trying to wrap my head around your reasoning.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by JL13 » Tue Nov 03, 2015 5:01 pm

SilverElephant wrote:One thing though: letting the CAPE revert while accounting for dividend and YoY growth... how does growth fit in with CAPE regression?
You can model what you're trying to figure out in Excel (Use the XIRR function). Assuming we start with a PE10 of 25, and it drops by 1 point over the next 10 years, so by 2025 it's 15. Earnings grow by 6% per year (because the S&P earns 11% on book value, pays out 5% in dividends, and reinvests 6%). Your rate of return is about 1%.

Of course, knowing when the PE10 will mean revert requires a crystal ball.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by jacob » Tue Nov 03, 2015 5:20 pm

It's expected to revert ... doesn't mean it will, especially not if the Feds and other central banks keep rigging the market to try to avoid it [as a side-effect of depressing their currencies]. However, if several other factors force it, the likelihood increases. See how this works?

For reversion, you just set up a reversion equation, like this ...

nominal returns(%) = dividend(%) [typically 1-2% but pick yours] + business growth [typically 6% historical but pick yours] + (16/25)^(1/10 years) (%) - 100%

If log-equations are uncomfortable, you can also EXP() both sides ... maybe it's more digestible that way?!

Or you can use total market cap/gdp, which is harder to fake [with buybacks], instead of cape.

Why ten years? 10 years is a standard market cycle. It could also be 1 year .. or 20 years. The key is to detrend as much as possible, i.e. get as close to the cycle period as you can. If you see risk as "how much money will I lose" rather than volatility, timing doesn't matter. I just position accordingly and wait for sentiment to agree with me [presumably].

Price is entirely separate from value. Price just reflect the tension between supply and demand. It has nothing to do with value. (Efficient market people who just felt a tremor in the force, please ignore.). Basically, the point is, that future returns have already been priced in at current prices. Therefore the market will not go up. (From a valuation perspective it is overvalued so at best, price will wait for value to catch up.) From other perspectives it still could. Prepare to be surprised for new kinds of crazy.

PS: Timing is not for me. Some people are good are reading the psychology of the crowd. I'm not. I invest accordingly [i.e. according to my strengths while doing so in a way that makes my weaknesses irrelevant]. Someone running a mutual fund or an index fund would optimize very differently! Basically, I take out the time dimension by predicting where the crowd will go once it comes to its sense (specifically, my sense :-P ). Then I wait for it. I can do this because I care about absolute return. Not rate of return. Hence, my metric for risk is not time-averaged volatility, but max loss.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by Riggerjack » Tue Nov 03, 2015 8:54 pm

This thread is comparing apples to bananas. The returns on rental RE are in rent, not appreciation. Not factoring that in is like not factoring in dividends from a dividend portfolio.
I bought a house in Everett, earlier this year, and covered the Numbers here viewtopic.php?f=3&t=6542

In short, factoring appreciation to be only inflation, I expect inflation plus 5.52%, excluding the value we created fixing the place up. This is not a part time job, but then I put in work early, and leave money on the table, to not work very hard at landlording.

The real value of RE is for the tax advantages while working, and the relative stability of asset price. This allows me to put money into my 401k 100% in stock indexes, and not sweat the volatility.

A fair comparison would be a 3:1 leveraged 400k house, a paid cash 100k house, and a 100k stock investment. Count the dividends and rent and appreciation, and you are talking apples to apples.

RE was a great investment, but now you need cash, buy distressed, and fix to get returns. Too many enthusiastic couples looking to be homeowners. So now is a good time to sell, if you aren't in for a long term investment. My renters make this too easy to sell now. Closer to retirement, I'll move into the rentals before selling, and not even have to pay capital gains. Try that with stocks!

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by Dragline » Tue Nov 03, 2015 10:23 pm

It would seem to me that these investments tend to diversify and complement each other.

Do both!

Riggerjack
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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by Riggerjack » Tue Nov 03, 2015 10:58 pm

I agree. With the way money is still manipulated, I'm not comfortable with bonds. Low yeilds and at some point rates will go back to a natural rate, and then bondholders will suffer. RE is my volatility safety net.

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Re: Real estate vs. Stocks long term: stocks win by a landslide?

Post by Chad » Wed Nov 04, 2015 7:06 am

The big difference between RE and stocks isn't how much you make off either, as you can make plenty off of both (obviously, varies based on tons of factors). The real difference is the type of work you like, your risk tolerance, what you are willing to do, your lifestyle goals, and what matches your skill set.

Staying away from bonds myself.

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