Shelter from the storm Today's 'feel good' investment isn't gold; it's a house

By Steve Kerch, CBS.MarketWatch.com Last Update: 12:03 AM ET July 16, 2002

LOS ANGELES (CBS.MW) -- Want to feel really good about your investments? Then forget buying into gold as the market collapses. Head for home.

Residential real estate has become much more than a place to hang your hat. Much like gold in the 1970s, Americans now treat the purchase of residential real estate as the investment of choice in times of economic uncertainty, according to a new study from the Milken Institute.

"During times of economic uncertainty, investors seek assets that 'feel' secure," says the report by economist Susanne Trimbath and research analyst Juan Montoya. "Real estate has replaced gold as the 'feel good' investment because it is literally as solid as the ground upon which we stand."

Some of the popularity of real estate is based on a psychological shift -- real estate is now seen as gold once was, tangible and a safe store of value - but the authors point out several solid, rational reasons for the sector's rise, including the fact that reduced interest rates have made it more affordable.

Long-term gains
Over the long haul, real estate has proven to be a pretty good investment. On average, house prices increased by a compound annual rate of 5.6 percent over the past 25 years, according to statistics from the Office of Federal Housing Enterprise Oversight. But recently, the performance has been much better: U.S. house prices increased an average of 7.4 percent during 2001.

That performance has been enough to keep real estate investments ahead of inflation by an average annual rate of 1.25 percent since 1975. Still, real estate can't match stock performance over that time; the Dow Jones Industrial Average, for instance, appreciated 4.6 percent in real terms over that period.

But real estate has three advantages that stocks do not: You can leverage your residential purchase, often with only 20 percent down but in many instances with much less; you can insure it fully against loss from a variety of hazards; and you get significant tax advantages from owing it.

All those factors make the actual return on real estate far better than the raw numbers indicate.

"Beyond the tax benefits afforded homeownership financed with debt, the use of leverage raises the return on capital for residential real estate investments beyond mere price appreciation. The earning power of leverage, combined with the insurability of property, presents an investment that is hard to beat," Trimbath and Montoya say.

Even by gold.
"To be a gold substitute, an investment must hold its values against inflation and not lose value during recessions. The performance of real estate investment has been quite good even before leverage is taken into account," the report says.

Real estate should hold up well even if the stock market plunges, the report argues, since economists generally agree that stock gains do not greatly affect real estate values outside New York, where Wall Street money drives home prices.

"The recent stock market decline may actually have helped the housing boom," Trimbath says. "Falling stock prices ease pressure on the Federal Reserve to raise interest rates."

$1 trillion a year increase
Americans collectively have benefited from rising U.S. residential values to the tune of more than $1 trillion a year since 1999. The total value of all residential real estate in the country is now about $23.5 trillion -- surpassing the $11 trillion market value of all New York Stock Exchange listed stocks, the $6.9 trillion in assets held by commercial banks and the $10 trillion value of the country's annual economic output.

Households hold about $11 trillion of residential real estate, and although most people are beholden to a mortgage company, they are not in debt as much as many people think. While it's true that many people initially take out loans for 80 percent of their home's value, mortgages account for only 44 percent of the value of residential real estate.

"The average homeowner is not extraordinarily burdened by his mortgage," Trimbath says. "The important fact is that real estate ownership is very highly leveraged, making it more sensitive to interest-rate changes than other investments."

So does it make sense to dump all your stocks and grab a second home or two?

With demand outstripping new housing supply in many areas, upward price pressure should remain in place. But the study doesn't suggest home prices will appreciate anywhere near their pace of the last four or five years.

"Although it is expected that homes will continue to appreciate in the near future," Trimbath and Montoya say, "very high growth rates are unsustainable in the long run." But, they add, "don't expect a bust in housing prices either."

Steve Kerch is the real estate editor of CBS.MarketWatch.com in Chicago.

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