On housing as an investment

Clients often daydream about buying second properties as investments. It seems so logical. For primary residences, we hold them a long time and they seem to rise in value really quickly.

But there are lots of problems with this line of thinking. First off, we overestimate the rate at which they compound. Mary's family bought its house in Larchmont in 1974 for $87k and sold it in 2020 for right at $2,000,000. It seems like a fabulous return. But annualized, it's a 7.2% nominal (not inflation-adjusted) return. Meanwhile the S&P 500, over the same period, returned 11.3%. (though that's a pretax return, taxes on the dividends and capital gains/distributions aren't factored in)

Moreover, there are ongoing expenses like maintenance, taxes (very significant ones for the Berridges) and insurance which capital markets investments don't have. Then again, people who choose capital markets as investments but rent instead of owning have analogous expenses, so maybe that side of things is a wash. Except.... people owning homes in high tax jurisdictions will continue paying the high taxes (for which they get fewer services once their kids graduate from high school) due to inertia, emotional attachment to their homes and neighbors, and high transaction costs).

There is one very important function to that inertia, though, that helps homes serve as stores and accumulators of value. It is often said that not timing the market but time in the market is the most important determinant of returns. If you can hold on to something, for example an S&P 500 index fund, for a long time, it will compound for you. All the emotional things and high transaction costs that keep people in homes for a long time allow compounding to take place.

There's lots more to this argument. I apologize, by the way, for two financialish posts in a row. I know that's a little aberrant. I'll get back to the good old stuff soon enough.

Also, I drifted away from the question of second homes as invesments, which is really a different thing. I'd come back to that sometime in the future but probably you could give a fuck. and rightly so.