americanos :: In the Long Run, Sleep at Home and Invest in the Stock Market

As the value of real estate has skyrocketed, owners have become enamored of the wealth their homes are creating, with many concluding that real estate is now a safer and better investment than stocks. It turns out, though, that the last five years - when homes in some hot markets like Manhattan and Las Vegas have outperformed stocks - has been a highly unusual period.

In fact, by a wide margin over time, stock prices have risen more quickly than home values, even on the East and West Coasts, where home values have appreciated most.

When Marti and Ray Jacobs sold the five-bedroom colonial house in Harrington Park, N.J., where they had lived since 1970, they made what looked like a typically impressive profit. They had paid $110,000 to have the house built and sold it in July for $900,000.

But the truth is that much of the gain came from simple price inflation, the same force that has made a gallon of milk more expensive today than it was three decades ago. The Jacobses also invested tens of thousands of dollars in a new master bathroom, with marble floors, a Jacuzzi bathtub and vanity cabinets.

Add it all up, and they ended up making an inflation-adjusted profit of less than 10 percent over the 35 years.

That return does not come close to the gains of the stock market over the same period. The Standard & Poor's 500-stock index has increased almost 200 percent since 1970, even after accounting for inflation.

Yet investment advisers worry that this reality is getting lost in today's enthusiasm for houses, even as some economists say the housing market has peaked. People are buying homes purely on speculation, trading real estate almost as if it were a stock. Surveys show that a large majority of Americans consider real estate to be a safer investment than stocks.

"With how strong the real estate market has performed, there is the urge for people to chase returns," said Jeff A. Weiand, executive vice president of RTD Financial Advisors in Philadelphia. "But it's very difficult to beat the long-term historical record of stocks."

Since 1980, for example, money invested in the Standard & Poor's 500 has delivered a return of 10 percent a year on average. Including dividends, the return on the S.& P. 500 rises to 12 percent a year. Even in New York and San Francisco, homes have risen in value only about 7 percent a year over the same span.

That does not mean real estate is a bad investment. It is often an important source of wealth for families. But its main benefit is what it has always been: you can live in the house you own.

"The biggest value of the house is the shelter it provides," said Thomas Z. Lys, an accounting professor at the Kellogg School of Management at Northwestern University. "Too many people are fixated on speculation whereas most of the benefit really comes from usage."

Despite the fact that home values usually appreciate over time, most of the value of a house actually comes from the ability to use it. In this way, it is more like a car, albeit one that does not become less valuable over time, than it is like a stock. Whenever people sell one house, they must immediately pay to live elsewhere, meaning that they can never wholly cash out of a home's value.

Including the value of living in a house - that is, the rent that a family would have to pay to live in an equivalent house elsewhere - homes in New York have returned more than 15 percent a year since 1980, according to an analysis by Mr. Lys.

But only five percentage points of this return comes from sheer price appreciation, as opposed to the value of shelter. Mr. Lys accounted for property taxes, spending on renovations, interest payments and the tax deductions on those payments, and the fact that most house purchases are made with mortgages.

When the sale of a house brings in a cash windfall, homeowners tend to focus on the fact that they made a down payment that was just a fraction of their house's value, lifting their return. But many forget just how much money they spent on property taxes, a new roof and the mortgage interest.

Add to all these factors the corrosive effect of inflation, and the returns are even lower.

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