1
“He is not a full man who does not own a piece of land” – proverb
This
may have been true in the agrarian economy a few centuries ago, but it’s far from necessarily so
today, although for many real estate ownership remains a marker of success and completeness.
When
younger, you may feel that “rent-vesting” is a useful strategy for delivering
maximum flexibility and arguably the fewest headaches. But after you settle down - and especially
if you have kids - the desire for home ownership may increase (for you, or for
your partner/spouse).
2
“The best investment on Earth is earth” - Louis Glickman
‘Best’
is obviously a subjective term. The ‘best’ investment for the remainder of this century
would likely be to find the next Microsoft or the next Google, to find it
early, and not be shaken out by the intermittent crunches in tech stock
valuations.
Real
estate is popular largely because it’s a long-term game, with generally stable
returns that can be leveraged, and because it’s a relatively simple asset class
for most people to understand.
A
key reason why real estate proves to be the best investment for so many
individuals and families is simply because they stick with it for the longest
time, allowing compound growth to work its magic over multiple market cycles. More
liquid and volatile investments are often sold to fund lifestyle requirements,
or when times get tough.
3
“Real estate cannot be lost or stolen or taken away…it is about the safest
investment in the world” – Franklin D Roosevelt
This
may be true in a stable developed country. That said, I’ve previously lived in
a developing country where I met people who’d been dispossessed of their homes
and land following a military invasion and occupation, so it’s clearly not impossible to lose ownership of your
land.
Sometimes
governments compulsorily acquire homes and land for renewable energy projects, rail
connections, motorways, or other boondoggles, though owners are usually
compensated accordingly.
In
China this gave rise to the dingzihu or 'nailhouse' - being
a home whereby the owner has refused to accept compensation from a property
developer for its demolition – the result being a home surrounded by a road or
other government project. Controversial land seizure laws in South Africa are
another example to show that land can be taken away or lost.
Most
often, though, land investments are safe, secure, and indestructible.
4
“Don’t wait to buy real estate, buy real estate and wait” - Will Rogers
A
question of market timing. The US has had just one major downturn over
the past 75 years (and only 7 down years over the past 75 years…hat tip Ben Carlson!). In theory, since the introduction of inflation targeting outright
declines in nominal housing prices could occur fairly frequently, yet in this
quantitatively eased era of money printing there may be smaller drops in housing prices than one might reasonably expect.
Property
is a unique investment proposition, for it serves both as an investment and as
a consumption good. Sometimes people buy property as an investment, others buy
it purely to have a roof over their head. Others still buy property for both
purposes.
People
will always need somewhere to live, so a well-located property investment which
is in strong demand should generate a growing income stream in the form of
rental income.
Real estate is therefore a popular long-term hedge against inflation, while a mortgage is effectively a hedge against currency devaluation.
5
“Buy land, they’re not making it anymore” - Mark Twain
This
is true in landlocked areas of larger and growing conurbations. In an
outer-suburban fringe or in a regional city, local governments may not be able
to make more land, but they can allow more of it to be built on. In
larger cities, rezoning can allow for tall apartment towers in locations that
were once reserved for low-rise housing.
Because
real estate is durable, in most markets sales tend to consist primarily of
existing stock rather than new builds. Prospective buyers only have limited control over the new supply that comes to market.
The cost of
new property is usually determined by land prices as well as the costs of
building materials and construction. If
prices are to move higher, as investors hope, then it makes sense to invest
only in areas with a growing population but a limited supply of new land
available for development.
In
the case of medium-density dwellings such as apartments, oversupply can be a
risk, so look towards areas where huge new tower blocks cannot be built due to
planning restrictions. City centres and Central Business Districts often have
few such restrictions and therefore oversupply in these areas can be a risk.
6
“Find out where the people are moving and buy the land before they get there” -
William Penn Adair
This
is a solid, if selfish-sounding, adage.
Some
ageing Asian countries such as South Korea, Japan, and China are now in
outright population decline, so with lower population pressures it’s logical
that housing prices are far cheaper in Sapporo than in, say, Sydney or
Singapore, where immigration has driven large increases in the respective
resident populations.
There’s
also a reason why housing prices are higher in Dubai than in Detroit. Cities
that area heavily concentrated one on industry - such as automotive
manufacturing or mining - can be prone to the swings and arrows of
outrageous fortune, booms in the good times, and then busts as the population
declines.
Thirdly, the growing wealth of the population matters for real estate, reflected in far higher prices in Vancouver versus, say, Venezuela.
7
“Location location location”
Possibly
the biggest cliché in realty, but it's cited for a reason. You can change the floor
plan or the décor of a house, or you can knock it down and rebuild it. You
might even be able to subdivide or see a block rezoned for a different highest and best use. But
you can never change the location of a block - it’s 100% fixed in place.
It’s
sometimes said that 80% of a property’s price performance is determined by the
location, and while it’s hard to prove or disprove that as a statement, it does
make some logical sense.
8
“Land appreciates, buildings depreciate”
This
is partly true.
It’s
often said that because buildings can stand for centuries then real estate is
durable. While this may be true to a point, one disadvantage of property as
compared to, say, a parcel of shares in a self-sustaining, profitable, and
dividend-paying company, is that if you don’t re-invest money in repairs and
maintenance, your property will tend to deteriorate, and eventually it may even
fall down.
On
the other hand, in nominal terms the replacement cost of a house tends to
increase over time, partly because of the escalating cost of materials, but
mostly because of increasing labour costs (as well as changes to housing
preferences over time).
About
70 per cent of the $11 trillion value of residential housing in Australia is accounted
for by the value of the land, and only 30% of the total value relates to
buildings.
9
“Buy the worst house in the best street”
This
is arguably a close cousin of the ‘land appreciates...’ aphorism. As a rule, focus
on buying the block with the most potential, rather than paying a premium for
the perfectly presented executive home. You may need to account for significant renovation expense, or demolition
costs in the more extreme scenarios.
10
"The idea of a margin of safety, a Graham precept, will never be
obsolete." Charlie Munger
They
say you should run the numbers, and you shouldn’t buy real estate emotionally,
and yet that’s precisely how most people choose a home to buy. It’s said that
the buying decision is made mentally within the first 8 seconds of entering a home,
so real estate prices are partly driven by often intangible pull factors.
Still,
ideally you should buy a house with a ‘margin of safety’ if you can. Which is
to say, you should be able to immediately relist the property and sell it for
at least as much as you bought it for, and to be able to cover all of the transaction costs.
It
can take a long time to buy or sell a property. This makes it extremely
important where real estate is bought as an investment that there is a
continual high demand for the type of property that you buy. The worst-case
scenario in an illiquid market is owning an asset which is sliding in value
with no buyers available.
Transaction
costs when buying property can be hefty: stamp duty, legal fees, lender's
mortgage insurance, mortgage transfer fees, building and pest inspections, and more. There can be other costs
when selling too: agents’ fees, more legals, and capital gains taxes, for example. The
implication of this is that property as an asset class is often better suited
to long-term ownership, than short-term flipping or trading.
11
“Buy a piece of real estate and leave it better than you found it” – Jim Rohn
Generally
sound advice. There was an old rule of thumb that said you should aim to add
$1.50 to $2 of value for every $1 you spend on renovations, though this hasn’t
always been possible in recent years given the steepling cost of trades and
materials.
If
you over-capitalise on a renovation, you may not recoup the dollars spent when
you come to sell (and if you own a home for the long run you may need to
renovate more than once, particularly since styles and tastes can subtly shift
over time).
12
“To my real estate agent, Chernobyl is a fixer upper” – Yakov Smirnoff
There
is typically an information asymmetry when you buy a house - a heterogeneous asset
which trades infrequently - since the vendor will invariably know far more about
the intricacies over the home than you as the buyer.
Every individual property is different, so ascertaining a fair market value can be difficult. Thus some level of experience can be important.
Market values can be easier to determine where there is a block of similar apartments with recent sales which can be used as a guideline. At the top end of the market in the premium sector, a fair market value can be very subjective and much more difficult to determine.
The
homeowner knows where the skeletons are buried – perhaps even literally! - while
the real estate agent is engaged to work for the vendor. For these reasons and more,
it’s easy to mistakenly overpay. Caveat emptor: let the buyer beware.
13
“Real estate is a game of finance with some houses thrown in the middle” –
Michael Yardney
This
may not have been quite so relevant in the lead-up to the global financial
crisis, when practically anyone who could fog up a mirror could easily qualify
for a loan, and possibly a 100% mortgage with no deposit down. But with today’s more prudent lending
standards where borrowing capacities are typically capped, it likely pays as
much to have a borrowing strategy as it does a plan for buying real estate.
14
“Give me a lever long enough and a fulcrum on which to place it, and I shall
move the world” – Archimedes
All
significant wealth is created through leverage, such as capital, labour, or
technology. Leverage in real estate uses borrowed capital or debt to
increase the potential return on any investment or portfolio.
Most
(though not all) properties are immobile. If you like your house but not your
suburb, chances are you will have to move suburbs and leave your house behind. Lenders
like this. You can’t easily disappear and take your house with you, and even if
you could manage to execute this, the land will still be there.
This
tends to make lenders more comfortable, and as a result they can offer very
long mortgage terms (25, 30, even 40 or more years, typically without margin calls),
at low interest rates, which often require only relatively small deposits. This
is a unique triumvirate of lending conditions and as such it makes real estate
unique as an investment.
Every
day investors can use significantly more leverage – they can borrow more
capital – to invest than is the case in other asset classes. Leverage is a
double-edged sword, of course, for it magnifies both capital gains and losses so
it must be used judiciously.
15
“Landlords grow rich in their sleep” - John Stuart Mill
Effortless
wealth accumulation through land price appreciation gave rise to Georgism, and
calls for taxes to be assessed on land value, which argued that land tax
revenues could be used to reduce or eliminate existing taxes.
Arguably
real estate investment is not always so passive – there are tenant management
issues, repairs, maintenance, insurances, and other costs – and nor is it
purely rent-seeking in nature, given that rental
accommodation is provided. The quote has some merit, though, since it’s often the long-term
‘set and forget’ landlord who grows the largest compounded equity over time.
16
“Land monopoly is a perpetual monopoly…it is the mother of all other forms of
monopoly” – Winston Churchill
Churchill
believed that the ownership of land is a fundamental source of power and wealth,
and indeed the original source of all wealth. Lamented was the enrichment
of the landlord who owns land in a growing city, benefitting in a passive nature from
those busily industrious souls making the city bigger, better, more productive,
and more efficient. It’s true that rising GDP, population growth, and household wealth is
often capitalised into land values.
17
“The major fortunes in America have been made in land” – John D Rockefeller
Ironically,
given the quote, Rockefeller’s own wealth was largely derived from oil,
although he also invested much of it in real estate. Over the past
quarter-century since the dotcom crash, tech entrepreneurs have created some
enormous vast, though still today much of it finds its way back into sprawling mansions (Zuckerberg, Gates, Bezos et al.) or farmland (Gates, Bezos et al.).
18
“Ninety per cent of all millionaires become so through owning real estate” –
Andrew Carnegie
Another
to hold the richest American title, Carnegie’s quote dates back over a century,
but it’s still been argued that 90% of millionaires created their wealth
through real estate today. Of course, a million dollars is hardly what it used
to be, and many of those with a million-dollar net worth have either simply
bought a home and paid it off or inherited a good chunk of their wealth and parlayed it into outright home ownership.
The
flip side to this is that in each downturn a disproportionately large share of
bankruptcies relates to over-leveraged real estate investors and developers.
Leverage allows average investors to achieve more with less; it also comes
with more risk.
19
“A lot of the wealthiest people on the planet have either become wealthy from
real estate or they later invested in real estate to keep their wealth” – Mike
Wolf
There’s
certainly a cause and effect at play when it comes real estate wealth and investment. Actors,
musicians, sports stars, and other celebrities who hit the big time tend to park their money in
expensive homes, as so politicians and successful business owners. There are
comparatively few bragging rights associated with a multi-million-dollar stocks
portfolio, but a waterfront mansion is a popular way to signal wealth and success.
