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4 Reasons Not to See Real Estate as a Strong Long-Term Investment

Stephanie Taylor Christensen
Fri May 02, 2014 01:27 EST

The "best" investment is a matter of personal goals, timing, risk tolerance, age, and investable assets. However, a recent Gallup poll indicates that given the choice of stashing their long-term cash in real estate, stocks and mutual funds, gold, savings accounts/CDs, or bonds, Americans believe the best long-term investment is real estate -- despite the data. The latest reports on March housing shows existing home sales have slipped to their lowest levels since July 2012; per Case-Shiller's Home Price Index, residential real estate yields approximately 0.16% per year, on average.
 
Though Americans' belief in real estate as a long-term investment may indeed by driven by the simple fact that it's tangible (we're "tuned into" the real estate market as the homes we walk and drive past each day are bought and sold), financial experts have a much different take on the best place to invest cash for the long term. (Hint: Of the more than 20 financial experts we consulted for this story, not one picked real estate.) Here's why there may be a far more valuable "home" for your money in the long term than the one in which you live.
 
There are better ways to invest in real estate. Without question, a home has intrinsic value: You need shelter. Why not put your money into something that benefits your quality of life now and sell it at a profit later? Because, with the exception of a few market anomalies, homes don't appreciate to the degree people believe. After costs are accounted for, returns for residential real estate basically keep up with inflation, "plus or minus 1%," says Katie Stokes, CFP director of financial planning at J.E. Wilson Advisors, LLC. "Yes, people will get lucky in the short term (others unlucky), but long term, you can expect the rate of inflation. That being said, real estate certainly has a part in a good portfolio -- but use a REIT (real estate investment trust) to diversify." (REITs are securities that pool the money of investors and trade on the major exchanges to provide exposure to different types of real estate. For more, see How to Spot a Well-Designed REIT.)

If you really believe in the investment potential of real estate (and have a high risk tolerance), Andrew Henderson of Nomad Capitalist believes you'll fare better investing way beyond your backyard. "Most Americans would be surprised to learn that Singapore, not their homeland, is the richest country on Earth (based on millionaires per capita) -- as are Luxembourg, Qatar, and Liechtenstein," says Henderson. "Places like Lithuania and future euro ascension countries will benefit from the 60% to 80% appreciation [that] Estonia, Italy, and others have seen."
 
You miss a powerful feature of long-term investing. Real estate markets are cyclical; there are costs to buying, owning, and selling a home; and it's a highly illiquid place to hold the bulk of your cash. If you're truly looking for gains over the long term, Marc Lichtenfeld, chief income strategist at The Oxford Club, recommends "perpetual dividend raisers" (stocks that raise their dividends every year).

He points to the S&P High-Yield Dividend Aristocrats Index (INDEXSP:SPHYDA) -- which measures the performance of S&P 500 companies that have increased dividends every year for the last 25 consecutive years -- for proof. "Since it was created in 1989, it has never had a negative 10-year return, including the years ending 2008 and 2009," says Lichtenfeld. "Investing in stocks that raise the dividend every year ensures that your income or wealth creation (if you're reinvesting dividends) increases your buying power rather than seeing it erode due to inflation. If inflation is at 3% and the stocks in your portfolio grow their dividends by 6%, you're increasing your buying power every year."
 
An increase in value doesn't equate to returns. All things being equal, two people who own the same stock receive the same returns. Not so in real estate, says certified financial planner Richard E. Reyes of Wealth & Business Planning Group, LLC. "Your return is also dependent on the amount of leverage you hold on the property [how much of your own money you've tied up in the property while it appreciates] or the amount of income the property generates," he explains. "Something as miniscule as the location of the property between states, counties, cities, or even the side of the street make a difference." Further, he points out, because there's leverage involved, its effect on your taxes (and its deductibility) also have an impact.
 
It has become popular again. Despite a dip in existing home sales, housing has become "hot" again. Some markets have even returned to the "pre-housing bust" days of bidding wars and cash transactions. For that very reason, David Stein, founder of Darby Creek Advisors, LLC, says your best long-term investment is the one that's unpopular. "Look at where we are today in terms of valuations, risk, and opportunity, and choose the most attractive investment (or in today's environment, the least unattractive)," he says.

The answer? Savings. Though Stein acknowledges that current returns are "deplorable," the appeal is about the big picture. "With stock valuations high, interest rates low, and yield spreads for investment-grade and noninvestment-grade bonds quite narrow, the best strategy is to stay in cash and wait for better opportunities in the future," he concludes.


Twitter: @WellnessOnLess
 
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