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Posted 4/10/2002
 
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Beat the market by buying a house Most people who have invested in a house have beaten index funds and added significantly to their wealth. No genius required. By Scott Burns Want to beat the stock market cold? Buy a house.
That lesson comes from a recent examination of home prices. Whether we measure over the last 10, five or three years, the simple act of buying an average home with a standard down payment led to major equity growth. Indeed, the growth was better than we would have experienced investing the same money in the Vanguard 500 Index fund. That fund, in turn, did better than the average domestic equity fund -- particularly after taxes are considered. Check these figures: Ten years. According to the National Association of Realtors, the median home resale price in 1991 was $97,100. A 20% down payment would have required $19,420, and you would have mortgaged the house for $77,680. At the end of 2001, the same home was worth $147,500. This means your equity grew to $69,820 through price appreciation. (We are ignoring equity growth through amortization of your original debt.) Put that number in a financial calculator and the 10-year annual compound growth rate is 13.7%. Invest the same sum in the Vanguard 500 Index fund and it would have grown to $60,593 over the same period, after paying taxes on dividends and capital gains that were distributed over the period. That computes to a compound annual return of 12.1%. Because the mutual fund investment is subject to taxes on the unrealized capital gains and gains in primary residential real estate are tax-free up to $500,000, the net advantage of home ownership is even greater. Five years. Over this period, the comparison improves. Homeownership equity grew at an 18.8% annual rate, while the index fund investment grew at a 10.1% rate. Three years. Even better. Over the last three years, home equity grew at a 20.5% annual rate. The index fund investment lost 1.5% a year. If you had bought the median-priced home at $128,400 with a 20% down payment of $25,680 and a mortgage of $102,720 in 1998, you would now have a $147,500 home. Your equity would be $44,780, an increase of $19,100. Since the mother of all index funds did better than most managed equity funds over all three periods -- before and after taxes -- we can safely say that the vast majority of people who became homeowners over the last 10 years have done better in their real estate investing than in the financial asset investing. This is an important fact. You can get some idea of how important by considering the distribution of net worth. As recently as the 1998 Survey of Consumer Finances, the median net worth of all American households was $71,600. That's only a tad over the $69,820 of equity built by the 10-year homeowner. Vaulting upward in wealth In other words, a single investment decision -- to own a home -- was enough to take a family into the mid-range of American wealth. Add a steady job, modest annual savings and a typical employer match for a 401(k) plan, and anyone who could balance a checkbook could have vaulted into the top half of all wealth holders over the last 10 years. No genius required. The most important message here is that investment, like charity, begins at home. Homeownership vs. the stock market
This also explains why consumer spending has remained so strong. Home equity is the largest part of personal wealth for 90% of all Americans. Increases in home value have very likely offset stock market losses. Consider 401(k) account balances. According to the Employee Benefit Research Institute, the average 401(k) account balance was $49,024 at the end of 2000. Only 13% of all accounts were worth $100,000 or more. With a home equity gain of $19,100 over the last three years, gains in home equity are larger than losses in the stock market for most Americans. 
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