Why houses are not an investment, aka, the argument I had with my wife

My wife and I have fundamentally different approaches to risk assessment and investing. She has a defined benefit pension and no other investments, while I’m actively building and managing my own portfolio. As part of my strategy to grow our assets, I suggested we start researching investment properties. My ambitions here were not large, a 2 or 3 unit apartment with a respectable CAP rate. I hadn’t figured out the financing yet, but thought we could use the equity in our current home, and some upcoming cash flow, to put ~$100k towards a property in the 300-500k range.

My wife was very quiet at first, then asked a lot of questions. Most of them had to do with the type of house, the tenant demographic, the rental market, etc… all things we would have to consider. She was hesitant to take on the risk of a second home; after all, what if it remained vacant for long periods, or had terrible tenants? I explained that, with some expert help, we could find the right property with sufficient cash flow to weather some vacancies. She seemed to accept that; however, just one day later, she sent me listings for single family homes in the 600-800k price range. She narrowed her interest further to a new, high end development just launching. I was confused. Instead of discussing income properties, the conversation had switched to moving.

I love my wife, so I seriously considered moving, but I needed to understand what was motivating her. To move to the development she chose, we would be getting less square footage for approximately double the cost of our current home. These homes are also more modern than tasteful. Every time I asked about her reasoning, she talked about the neighbourhood and the location.

We went to the opening sales event. I realized then that she didn’t want to live in any of these homes, but she had convinced herself that she did. I learned, after leaving without making a purchase, that she believed the development would be successful and, in just a few short years, the 800k home would have appreciated to 1M or so.

I was shocked. My wife, the risk averse, government pensioned, investing noob was suggesting real estate speculation! I tried to explain how fundamentally riskier that type of investment is compared to rental properties, but it was like we were speaking different languages.

So I made a quick table for her benefit:

Real Estate Investing Strategies

Purchase Price Down Payment 5 YR Appreciation 5 YR Net Operating Income 5 YR Interest Paid
Speculation $800,000 $160,000 $200,000 $0 $80,000
Rental $500,000 $100,000 $38,000 $50,000 $0
Differential +$300,000 -$60,000 +$162,000 -$50,000 -$80,000

Actually, this table didn’t help my cause much. I think she said “ah ha, see!”. So I made another table:

Real Estate Investment Returns

5 Yr Return % Return on Investment 5 YR Net Cash Flow Increase in Assets
Speculation $120,000 75% -$174,000 $426,000
Rental $88,000 88% $50,000 $198,000

I was about to make another table to further illustrate my point, but I think it is clear these are fundamentally different investment types. If you are a real estate expert, and are comfortable speculating, then there could be a substantial increase in your assets… if it hits. It also clear that if that initial ‘bump’ in value doesn’t happen, then the home might only appreciate at a more standard rate, going up in value 60-100k. In that scenario, your asset column would still have increased by a healthy 310-360k, but your net return over that 5 year period is in a range of $20k to -$20k…

I didn’t include the worst case scenarios on the chart, because, and maybe this says more about me than I think it does, wouldn’t everyone rather get paid $50,000.00 to add almost $200,000 in assets to their balance sheet? You can carry the scenario ahead to it’s ultimate conclusion too.

After 25 years the speculator will have a (potentially) 1.5M dollar asset free and clear, which would have cost them $880,000.00 (on a 640,000 mortgage) over that period (assuming a continuation of amazingly low interest rates). A net gain of $620,000.00, or 77.5%, over 25 years.

After 25 years the landlord will have a (potentially) $820,000 asset free and clear, which would have cost them (ideally) only the initial $100,000.00 down payment. Resulting in a net gain of $720,000, or 144%, over 25 years. That is just on the property. Over that same period, the property would have generated a net operating income (assuming rent increases of 2% to account for inflation) of $324,000. If that net income was, for example, invested monthly into a 4% dividend bearing stock, then the $324,000 net income would become $566,000 over the same 25 year period. Meaning the landlord would only come away with 1.386M in Assets for their $100,000 investment, a paltry 1386% return. 🙂

Should I put this last section in a table as well?


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