It’s said that homeownership is one of the markets that millennials are killing. Well color me a typical millennial, because I don’t own a house, and I can’t see why I would want to. Renting housing just seems like a better deal. I’m going to explain why I have this intuition, then I’ll actually do some research to see common rebuttals.
Similarities and differences
Let me start with some caveats and basics. While homeownership and renting fulfill the same need, they are not directly comparable. At least around here, if you rent housing then you tend to get a smaller apartment, and if you buy housing, you tend to get a larger house. If you want to spend more money for more space, or less money for less space, that may make your decision for you.
The other main difference is that homeownership is kind of a two-for-one deal. If you rent housing, you’re pretty much paying money for living space, and that’s it. If you buy housing, you’re not just paying money for space, but also investing some of that money. If you don’t want to invest money (say you can’t afford to), then homeownership is a bad deal for you. If you do want to invest money, then you could buy a house, but it’s not like that’s your only option. You could just rent housing, and then invest the money you saved by not buying a house. Thus, the comparison I’m making is not between a house that you own, and a house that you rent. The comparison is between investing in a house, and investing in, say, an index fund.
One thing that’s not really different, is how you pay the money. Typically, “buying a house” does not mean paying a large sum of money upfront. Instead, a bank gives you the money to buy the house, and you pay the bank back over many years, plus interest. And if you fail to pay them, they take the house as collateral, not unlike what happens when you fail to pay rent. Eventually, if you pay off the debt, you get to live in the house rent-free (although you still have to pay property taxes and maintenance costs). But it could take several decades to see that return on your investment.
Why homeownership seems intuitively bad
When I told my dad that I didn’t think owning a house was a good deal, he went off about how valuable it is to invest money early on, and have it pay off when you’re older. And I said, but that’s only an explanation of why it’s good to invest money, I already know that. There are plenty of ways to invest money, and I find it strange that buying a house is somehow considered the most essential or default option.
It seems that society at large places undue value on homeownership. Owning a house is considered part of the American dream. As a society, we in the US have decided that homeowners deserve tax breaks. And if millennials don’t buy houses, that couldn’t possibly be a rational response to their economic situation, there’s got to be something wrong with them.
There’s a very basic reason to reject this received wisdom: the efficient market hypothesis. The efficient market hypothesis says you can’t (on average) beat the market using only publicly available information. As long as housing is publicly bought and sold, it cannot be better than other kinds of investment.
Apart from that, there are several other factors that make homeownership look like a bad investment. First of all, you’re investing a lot of money in one big thing, when generally you would prefer to invest a little bit of money in many different things. That’s called diversifying your investment.
Why is a diversified investment good? Every investment comes with risk, and the higher tolerance you have for riskier investments, the greater your expected return. Thus, if you have some way to take a risky investment and make it less risky, then you’re basically tolerating a higher risk, which makes you a profit. One of the most common ways to reduce risk is by investing a little money in many different things. All the different investments will have their own risks, but as long as the risks are uncorrelated with each other, they tend to cancel each other out.
Index funds and mutual funds are basically portfolios of diversified investments. So, that seems more ideal. Except, well, someone has to manage those portfolios, and they probably pocket the profits. So… eh?
One thing that seems appealing about investing in a house is that, even if housing prices go way down, you still have a house to live in. But there are still plenty of risks. Maybe there appear serious maintenance problems that now you have to pay for in lieu of the landlord. Or maybe you have to move because you switched jobs. Or you lost income and can’t afford the house mortgage anymore. Or, if the idea is to hand off the house to your children, maybe your children move to a different city.
If you do end up moving out of the house, it sure seems less efficient than moving out of a rented apartment. You have to pay those real estate people.
I mean, it’s probably a good deal if you expect to live in the same place for a long time. So, good for older generations, and not millennials so much, who I understand to have less job stability.
In which I do some research
So that’s my intuition, but what do other people say? You could listen Adam Ruins Everything. Adam is just a comedian with a research team, so he’s not the most reliable source, but then, maybe I’m not either. Anyway, he gives a good TL;DR version of what I said.
I also found this Vox article by Timothy Lee, taking the opposing point of view–this being in response to economist Alex Tabarrok, who was agreeing with me. Tabarrok looked at the financial track record of housing, and argued that renting has become better than buying. Lee seems to quibble over the details, arguing that saved rent is like a dividend–I don’t know how to judge this point without digging into it. Lee also brings up the thing I mentioned, that even if housing prices go down, you still have a place to live. I agree that this is a form of hedging against certain kinds of risk (and recall how I said risk mitigation is profitable), but homeownership comes with plenty of its own risks too.
Finally, Lee argues for the benefit of a forced investment. Although maybe you could do better by renting, and investing the money you save, in practice people don’t do that, even if it would be better for them. Yeah, point taken. But instead of (or in addition to) homeownership, may I recommend an IRA? In the US, you can make a retirement account with special tax breaks, which accepts up to $5.5k contribution every year. Because it’s such a good deal I make the maximum contribution each year, which basically commits me to investing on a regular basis. And also, unlike investing in a house, if I’m in financial trouble I can temporarily drop the commitment, because I’m not actually required to keep it.
Anyway… I’m sure owning a house is a good deal in many situations. But maybe it’s just not a good deal for many millennials. And having tax breaks for homeowners relative to renters sure seems discriminatory.