Dr. Eli Beracha: Renting versus Buying a Home

(upbeat music) This is the Rational Reminder Podcast, a weekly reality check on sensible investing and financial decision-making from two Canadians. We're hosted by me, Benjamin Felix, Chief Investment Officer at PWL Capital and Dan Bordelotti, Portfolio Manager at PWL Capital. - Good to be back. - We had a very interesting guest today. We're joined by Dr. Ellie Bracha. He studies real estate. He's a finance professor, but his main research focuses on real estate. We talk to him about one aspect of his real estate research, which is renting versus buying a home. He's got a bunch of papers on that. He's got a bunch of papers on other real estate topics too, but we focused on this one. So he's been in his field for 20 years, both academically and with practical experience, as well, serving as a consultant for large real estate funds. He's advised on development projects. He's been in there studying it academically, but he's also been in the field in a practical sense. He is the department chair and director of the Hollow School of Real Estate at Florida International University. He's got his PhD from the University of Kansas in finance with a concentration in real estate investment. And he's got a huge resume of published papers in academic journals. He was recently recognized by the Journal of Real Estate Literature as the third ranked in the world for his real estate research productivity. So in terms of interesting people to talk to about the rent versus own decision for housing, he's got to be up there in the top one or two people in the world to ask about this. - It's such a hot topic with our listeners, right? I mean, it's something that we've talked about a number of times and it always attracts a lot of reader interest. And it's great to have them on to provide some actual empirical data on the discussion. - Dan, you and I had a pretty good conversation about this topic back in episode 325, which we do reference during this conversation. So if people wanna go and check that out, that's the episode number. I don't know, Dan, I thought this is a great conversation. Ellie's research spans analytical studies of rent versus own outcomes. And he shows, as we've talked about, that renters can come out ahead. He's also got a really interesting bi-versus rent index that him and co-authors have published. It's kind of like a barometer that shows a point in time for different areas in the United States. Whether X, anti, looking at the information that we have now looking forward, whether it makes more sense to rent our own in that specific place. And we talked about how that model's actually been pretty good at predicting future price movements for real estate. But then the other thing that I really appreciate with the whole conversation about Ellie's research in general is that he's not saying renting's better. He's just saying, hey, look, renters can have similar wealth outcomes, but he also acknowledges that they don't. And so we spent quite a bit of time talking about why that is. We talked about it quite a bit on our original podcast that you referenced, this idea that in theory, it absolutely makes sense that if you spend less money on housing by renting and you invest the difference wisely, you could come out ahead or at least very comparable. But most people just quite simply do not do that. In practical terms, it actually makes sense to advise people as a parent advising your young adult son or daughter. Should you rent or should you buy? It's very limited just to present some academic evidence. I think let's look around. What do people actually do is that it's rent and spend the difference. That's gonna have a dramatically different result and rent and save the difference. And we all know which one most people do. - I mentioned this during a conversation with Ellie too, but he says something along these lines on one of his papers that get general advice to buy instead of rent is good advice, but it's given for the wrong reasons. - That's right. People, I think when they give that advice say things like houses always go up in value, they're not risky and things like this or other investments are more risky and likely to result in lower returns. I mean, none of which is true, but if you look at his reasoning, why homeownership can make a lot of sense. As you said, it's the same conclusion. It's just for different reasons. - The other really interesting paper of his that we talked about is how an own home fits into a portfolio of other assets. I mentioned this during the conversation too, but especially for our world debt, where we're dealing with people who do have sufficient wealth outside of their home, they actually have a portfolio of assets, they own stock spawns and a home. In those cases, when you adjust for risk because of the hedging properties of the home, it actually gives you a better risk adjusted outcome in a lot of cases. So for people who have wealth and have other assets, only a home actually looks really good in a model, but then for people who only own a house, it doesn't look so good. So there's a lot of nuance and really interesting points that we talked about. - And it's a very important point because as we know in Canada, it's a very large number of people for whom their house is the vast majority of their net worth. As homes are so expensive, that isn't surprising, but it does help to look at that from a risk perspective, something where to happen to affect the value of your home, it devastates your net worth. In a way that it wouldn't be if it represented a quarter if your net worth. - Interesting stuff. Any other thoughts or comments before we go? - No, let's get to it. (upbeat music) - Ali Brahal, welcome to the Rational Reminder podcast. - Thank you, thank you for having me. - We're very excited to be talking to you. You've got some incredibly practical research that we're gonna talk about, and we thank you for that. To start off, how entrenched is a home ownership as the American Dream? - I think it's very much entrenched. It is the American Dream. Really with people thinking about coming to America, I think about the house, the two and a half kids, the big fans, et cetera. Owning a home is almost a sign of you made it, or at least you made it somewhat in the US. That's why I think it's so important part of the American Dream. - Ali, when we think about the price of a home when we're comparing it to the decision to rent, for example, frequently people only look at the purchase price of the home. What other factors are you considering when you measure the cost of home ownership? - That's a very good question, because most people, and I give this example in class a lot. So there are two homes. Let's say they're both the same size, same number of bedroom, bathroom, age, body, finish, et cetera. One cost, let's say $500,000, that I want is $600,000, which one is more expensive? And of course, the answer is well, the one that is $600,000 is more expensive. And so, well, maybe, maybe not. Well, what if the house that is $500,000, for example, in five years from now, when you sell it, you would sell it also for $500,000, and the one that you bought for $600,000, when you sell it five years from now, you would sell it for $800,000, which one is more expensive? Well, now to start thinking. This is one factor. Basically, the future price appreciation of a home, if it is higher, it makes the cost of a home less expensive, so it's less costly to own it. And most of you don't think about it. It's really simply thinking about the price tag. Some people think about, but probably not enough, about the other costs around, of course, property taxes, maintenance, insurance, et cetera. Those are relatively straightforward. Unfortunately, people underestimate them quite often. But really, the one of the missing is the fact that, just because a property is less expensive in terms of the price tag, it doesn't make it less costly. Such an important point. The price appreciation piece, but also just all the other unrecoverable costs, the things that you pay to live in a home, the people don't think about, makes it, I think hard for people to compare renting and owning. Can you talk about the fact that there are these other costs stoning that are different from the price? What does that say about the general sentiment that renting is throwing money away? - If you would find a place that you would consider living in, and let's say that that place is available for rent and available for sale. And let's say I like the place, I wanna move in, but I'm not sure if I wanna buy it or rent it. I always give the example. Let's say you're asking somebody who's wise, experienced. Let's say you're brand new and you ask your owner, what would he say? Should I buy it or what would your grandma say? And all the students always say, my grandma will tell me to buy it. And I said, yes, she probably will. And she will not only tell you, you should buy it, she will follow it with, well, if you rent, you just throwing your money away. Or she finished with another classical, well, if you rent, you just paying your landlord's mortgage. Some kind of an ending like this, but really, it cannot be more far from that. The cost of renting, the rent amount, that is the cost of using the home for a given period of time. So you pay your rent every month, and if you rent this 3,000 hours a month, that it was a cost you to rent it. People underestimate how much it really costs to leave in your own home. Sometimes the obvious place that people look at is what is mortgage payment, which is not the cost of their home. You can talk about it later. But even if it is, even if that is what they're comparing, they're excluding other things like maintenance, repairs. The time you spend home people over the weekend because you fix this, that, and the other. It makes home ownership not cheaper than renting often more expensive. Renting is definitely a valid option for many individuals, many families. - Can you talk about theoretically what the price of a home should represent? - Well, the price of anything should basically represent what is the future benefits, I guess, discounted the present. Of course, we talk about investment properties. It's easy to take cash loads, discount them, and calculate kind of the value which should agree to the price of the property. When you talk about a home, it's all quite difficult because you talk about a lot of soft things that you can't really easily discount. For example, you know, the quality of education, the level of crime, the beauty of the neighborhood, all the soft things that we definitely do value, but it's very hard to put a number or a dollar sign next to that. But the price of the home should represent all those factors together. And because so many of them are soft, and many of them are changing a lot over time, you're moving to a neighborhood, and maybe the crime level is elevated, but it's being fixed over time, or vice versa, going worse. Those are the kind of things that should represent. And because they change a lot of time, prices are very different and change differently in different locations. - So it's like a stock price. You've got housing services flows that are maybe worth different things to different people, and then you've got a discount rate, it reflects whatever other factors. - Exactly. The American dream, the psychological desire to own a home, how does that interact with the theoretical price of homes? - It's not just about Americans. I'm based in Miami, so arguably part of the United States of America, because so many people consider owning a home to be the American dream. There's a bias toward home ownership that makes the demand for home ownership higher. And therefore, even though in equilibrium, it should be equal to the cost of branding, it actually pushes the cost of ownership above the cost of branding. So because it is part of the American dream, it actually makes owning a home more expensive than renting. - Yeah, that's so interesting. In a perfect equilibrium, renting and owning should cost the same, because if they didn't, people would shift between the two until the prices found in equilibrium. But because there's this non-financial desire to own homes, you could theoretically see a case where a home ownership is actually more expensive because you're getting this, whatever psychological benefit. - Yes, to be honest with you, I mean, there is value to home ownership beside just the service that the home gives you. If it gives you a different feel because you own it, because you believe and feel like you're part of the neighborhood or whatever other benefit it gives you. Comfort, sense of home, some people tell you, you know, I rent and I just never feel like home. But you can't argue with that. They just don't feel it. And once they buy something, it can be the condo next door that they don't rent their own. Now they feel like home, it has value. When we do research, we can't analyze that value. We analyze things that have door signs and when we compare one to the other, we can say, okay, so renting is less expensive and more attractive from a financial perspective, maybe. But you cannot include the other thing, the non-monitorial considerations that are important. - Dan, you once told me a story on this podcast about how you were renting a condo and then bought the same condo. And then as soon as you bought it, you started doing upgrades and renovations. Did you feel like it was more home once you bought it? - Yeah, I think so. Just to fill in the details, we rented a condo when we moved into downtown Toronto and fully expected to remain renting indefinitely. And then our landlord informed us that they were gonna sell the property and they said, you have to leave when your lease is expired. So we made the decision to just buy it from the landlord. So we made the unusual decision to stay and we both rented and owned the same condo, but absolutely your perspective changes. Once you own it, all of the things, the imperfections that we used to turn a blind eye to, like, well, we don't love the bathroom, we don't love the kitchen, but hey, we don't own the place. Then when it becomes yours, all of those things that you were not content with, you end up spending money on because now it feels much more like home. That can be both good and bad, but I would say it does add to those additional costs of home ownership that are not often allied up 'cause we spent a lot more on the exact same property once we owned it versus when we rented it. - And that is the dollar that you spend that along the time that you spend thinking about it's dealing with whatever headache in the boat with renovations, people underestimate how much that is. - That's very, very true. Ellie, what is this behavioral psychological perspective to the equilibrium concept? What does it say about whether we should expect renting or owning to come out ahead in the long run financially? - I was teaching by versus rent for a long time since I was getting my PhD. I got my PhD in 2007, but I was teaching before. I think I was covering the topic of by versus rent since maybe the '14, '45. And I was always doing this simple analysis, consider all those factors and we put them in Excel spreadsheet and we reached some kind of a numerical conclusion. And then one of the students asked me, "So we're doing something about what we expect to happen in the future. What happened in the past is renting better awards than owning from a financial perspective." Then something that I don't often do, they tell you, "Hey, I'll go and check on that." And I said, "Actually, I don't know the answer." And I'll go check on that. And I went to check on that and nobody knew the answer. There's nothing on that in the literature. And I said, "Well, guess what? I'm gonna find out." And that's where the first widely cited paper that I wrote on the topic was born. And in the beginning, we didn't really know what to expect, but the results basically showed at renting for the majority of the period. We looked at that time, it was from the early '80s until 2000 and 10 I believe, or 2012. And the thing was 30 some years of study. And then we continued that later too. It shows that renting, if you're really doing only the monetary consideration, comparison between the two, renting actually comes ahead of owning. And we can go over in a second what the analysis includes. But then later on, what people ask me, "So why?" And really, the research itself didn't ask why this happened, just ask what happened. And then we came up with this theory and we started looking at other things and the idea is that yes, in equilibrium it should be 50/50. But because there's this desire to own a home, it pushes ownership across a barbecue living room. And therefore renting is the better option if you are doing all the things right and you're looking only from a monetary perspective. - Makes a lot of sense. We had Sebastian Betermier on this podcast a while ago. And he also talked about the hedging benefits of on-homes, which could also drive down their expected returns. - There's a different paper that I wrote. And I think you may have touched on that later as putting home the thing up with foil. - That's a great paper. It really puts a really nice bow on this whole topic. We will come back to that one. For this paper, we're talking about now the 2012 paper. Can you talk about how the model was set up? - We tried to have something that is relatively simple. We are modeling the Bivers' Ring decision as a, we call it a horse race comparison. So you can either buy a home or rent. If you buy a home, you put a particular down payment, you own it for the average time that an American owned a home, which right now it's somewhere around eight years or so. You are buying the home with a traditional down payment with the current interest rate in the market. You have the ability to refinance, et cetera. We track how much homes appreciate over that time period. Soon you made payments on time, et cetera. And then see, okay, at the end of this holding period, how much money would you have selling your home? So you started with, let's say down payment of $100,000. The home appreciating the payments you paid off your debt, and let's say you end up with $200,000 at the end of the, you sell it, selling commission, et cetera. During the holding period, of course, there is expenses which we ignore for the time being. We don't ignore them as we don't look at them, but this is part of the cost of owning a home, but you end up with X amount of money. And then the renter is doing something similar. The renter is getting into property, that is a similar size, quality, et cetera. Again, we have all this information about how much rent prices went up. We assume that that renter is, of course, not building a home because you don't buy a home. They invest in a combination of stocks and bonds. And that is the invest there. The amount that they would have put in a down payment. They would invest the amount that they would have paid toward closing costs, et cetera. And they would invest any differential amount between what it cost them to on a yearly basis, to own a mortgage payment insurance, property taxes, repairs, et cetera, minus the rent. So for example, if the rent again is $3,000 a month, so that's $36,000 a year. But if they were to buy that home between the mortgage, insurance, property taxes, et cetera, let's say that cost, let's make it simple number, $40,000. That means that as a renter, they should find an extra $4,000 in the account in the end of the year. In reality, we know that it's not how it works. But in theory, they would find an extra $4,000 in the account at the end of the year, compared to if they were a home. That $4,000 would go back into the investment account reinvested and go. That is basically how it's set up. And then we see, OK, how much is that investment account worth at the end of that eight-year holding period? And we do it for each beginning from, let's say, 1982. I believe the sample begins the first quarter of 1982, going eight years. And then the second quarter of 1982, going eight years. Because in hindsight, we know exactly what happened. We know what interest rates were, when price appreciation was, when the rent was, there's no assumptions. You just know those numbers. And you can really make a comparison of who is better off financially. Just to clarify, you mentioned the renter who was investing in a portfolio. What was the mix of stocks and bonds that you tested? And I'm wondering if it made a difference if you had a very conservative portfolio versus a very aggressive portfolio. And also, obviously, the time period makes a big difference because during the '80s and '90s, for example, you had very high returns across the board, fixed income and equities, it would have been different during periods of lower investment returns. So how sensitive was the analysis to that asset allocation? We did really two tests. We did one test that, to me, doesn't make much sense. But if you're aware of how the academic process of publishing a paper works, sometimes you do things that the reviewer or the referee ask you to do, whether you agree or not, because it is needed to get published. And that was basically assuming that you invest in risk-free investment. So whatever down payment, all those other amounts, you put into a risk-free, and then even under that scenario, renting was still better off. Not quite as much, but it was still better off. So basically, we did eight-year treasuries to mimic that eight-year holding period, even though it's really unfair. Because housing is a risky asset. We know that if auto, they go up, they go down. But this is one test that we did. The other one was what we called a risk equal portfolio. And a risk equal portfolio is a portfolio that we are adjusting the standard deviation of that portfolio, playing the combination between stocks and bonds, until it equals the standard deviation of an average single property. One more. We can argue about what is the exact same building, how you measure that. And there's some issues around it. But we're pretty careful about it. It's passed a smell test of other people that know something about those collaborations, and that's how they did it. So we call it the risk equal. And is that a roughly balanced portfolio 50%, 60% stocks? I'm just curious. It was a little bit more heavy towards the stocks than it was the bond. Again, I'm going to go back to the classroom, but just to let you see how students think or people that maybe are not familiar with the topic as much. So every semester when I teach the intro course of real estate, I give them a buy versus rent project, pick a property, and tell me whether you should buy it or rent it, and what, to make some assumptions, and then you need to justify those assumptions. And one of the assumption is that we invest in a equal, let's say, or 60, 40 stocks bonds portfolio. I always have the same comment. Let's say that they're considering a condo in Miami, Florida. You really believe that 20% down payment is levered single condo in Miami, Florida, has an equal risk to a diversified portfolio of all the vast corporations in the world. You name it between the prox and gamble and the caterpillar and the IBM and the Google and the VDN, et cetera, et cetera. And then you even de-risk it by putting it with bonds. Again, the versus of a portfolio of those. And you really think the two are of similar risk. To be honest, it's clearly that so many things can happen with your own condo. Anywhere between more of the issue, constructions issue, cost of insurance, rising sea levels, you name it, or even things that don't think about. Somebody build a building across from you and just block your ocean view. That's a risk, which will affect the property value. It may not harm you physically, but those are the kind of things. So to me, it's clear that a condo is a much more risky proposition than a diversified portfolio. But to them, it's like, well, you know, a condo. I can touch it, I can feel it, I know where it is. And a stock, it's a bunch of prices running on my screen that today there's something and tomorrow, I don't know where they're going to be. So that is the perspective of many people. We've talked about this before in this context, this idea that if your house was marked a market every day, it would look a lot more volatile. But because it isn't, people feel like they're very comfortable in saying, I don't care what my house is worth, except on the day I sell it. The same should be true of a stock if you're a long-term investor. But people approach those two questions very, very differently. Of course, and the problem also, when you sell your house, at a day you decide, OK, we're going to sell it, you don't know what you could have sold it three months before. If stocks you know, and it's like, oh, my gosh, I could have sold my stock but for you for eight percent more, I'm not selling right now, or you have this kind of negative bias against selling it, but again, it's really psychological. It's really stemmed from the fact that you do not know the value of your home on a daily basis. And that's actually one of the reasons that make housing, actually, for most people, a great investment without being a great investment. It forces them to be long-term holders. It forces them to not look at the price every day. Yes, they can check on Zilla that's daily valuation from Zilla are smooth and there's other issues there. And they hold it for a long period of time. And over time, even if the appreciation is not very high, it is large in dollar amounts because you're talking about large amounts of dollars going to do that, which is compared to most people net worth. That's why the most people will tell you, this is the best investment I've ever made, even if it's not. Even if it's not, but they might be right for the wrong reasons. I think it's how you describe it on your papers anyway. We're going to come back later and ask you what you think most people should do. Because I think after we've had the whole discussion, your answer to that question will be very interesting. In this 2012 paper, you basically find that renting comes at a head most of the time throughout your sample. Have you followed the results from that paper out of sample since it was published? We have. We've been publishing a different version of those results with an index of Biber's rent since then. And overall, the results are similar. I mean, they change from one period to the next, but overall, they're similar. Yes. If there is a sort of well established, at least based on the findings of your studies, that renting comes out ahead most of the time. What are the reasons why people still prefer owning a home if financially there's some evidence that it's not the best decision-long term? I think, first of all, the number of people that write my academic paper that is 45 pages long and have some mathematical equations and graphs, and it's bringing black and white. And it's not an Instagram available already. It's not very many. So I don't think this fact is very well-known. Also, there's no much reason for, let's say, the National Associates Realtor to advertise that. I think most people are not aware of. That's number one. The number two is, again, this is part of the American dream. They want to have ownership. And that is the main reason why people still buy. They still believe that renting is running money away, paying your landlord's mortgage, et cetera. Now, don't get me wrong, there's a lot of benefits of owning because we're talking about, again, the monetary versus the non-monitorial, but I think people just not aware of these step analysis. When I do it in my classroom, and again, remember, those are students that are coming to study about real estate at a master's level. So those are people that are having interest in the real estate, and if they are in the real estate, and so they do not know anything about that. When I tell them that renting with the majority of the parts coming ahead, they're like scratching the head. How can that be? I want to come back real quick to something that you emphasized a couple of times earlier, but I just want to make sure listeners caught it. Is the difference between a single property. When you're talking about volatility matching a portfolio of stocks and bonds to the volatility of a real estate asset, I think a lot of people are familiar with the volatility of real estate indexes, which are smooth because of valuation lags and because they're diversified. But when you own a home or a condo or whatever, you won't want, you live in one thing because it's a large, indivisible asset. And so the volatility of that one thing is going to be very different from a portfolio even if the stocks are more volatile on an individual basis. The single real estate asset is likely closer to the volatility of a diversified portfolio of stocks. You emphasized that a couple times earlier, but I just want to make sure listeners caught that difference. Yes, it is very different. For example, we know that if you take 100 years of data in the stock market and the index that the standard deviation is somewhere around 20%, depends what period looking at. And the standard deviation of an average stock is about 50% over that time period. That ratio of between 20 and 50, which is 20 and a half times, we find pretty similar ratio when you're looking at indices versus single homes in terms of volatility. So yes, there's greater volatility. And yes, you do only one home, which is another, some of this advantage of owning a home because when you own a portfolio of stocks, it's easy to own a portfolio. You can just buy SPY, whatever it is, index. When you buy a home, you can't really buy a portfolio of stocks. At least most people can't. Yeah, most people can. In the 2012 paper, you look at both the X-anti-and X-post performance of renting relative to buying. How does the X-anti probability that renting is preferred changed throughout the sample? Are there periods where renting looks relatively good or bad? For example, if you're looking at the X-anti- it changes. So when a housing price appreciates significantly and the rent does not follow. So think about a period of, let's say, 2000 until 2006. And during that time, prices went up significantly. And rent didn't change much because everybody went into arms. So there wasn't much demand for rental. And again, through the model, it was screaming. Do not buy right now. And what do people do? Let's buy. And then they're surprised, there's a bubble. Now, it doesn't mean that I know exactly when the collection's coming. But there are some periods where it's pretty obvious that one outcome will come ahead of the other. The other periods were, it's not obvious. The odds are tilted a little bit one way versus another. But there are some periods like that extreme that the X-anti was basically telling you the probability of you coming ahead only at that time is very small over again, extreme period of time of eight years. Very interesting. X-anti, just for any listeners, are familiar meansly before the fact, like evaluating before the fact? When we do X-anti, we pretend we don't know what happened after, so we're feeding the model only data that was available at that time, that's in 2006. Of course, at that time, for the paper, we knew what happened after, but we pretended we don't by feeding the model only data before that. The expose is with all the information, whatever we know, that maybe we didn't know at that time, when we make decision. You mentioned your rent versus buy index. Can you talk about how that index works? So the index is basically model after the same horse race comparison that I described before, except we wanted something that is easier to interpret and understand by the average reader, somebody who want to make a buy versus rent decision for themselves. So we standardize it between negative one and one within three standardization above and three standardization below, basically, the probability of should be buying, shouldn't be renting, on average at index, we force it to be zero on average. So that means every time you above that, the probability of buying and being ahead is higher. And every time you below that, the probability of renting and being ahead is higher. That's how we calibrate it. It's the same model, just calibrated. So people can look at between negative one and one, it's easy to interpret. How has the advice implied by that index changed? What did it say when you published the paper and then added a change afterwards? Well, 2012, basically coming out of the greater session, at that time, if you're really looking at the model in 2009, then it tells you you should be buying. And guess what? At that time, really nobody was buying. Because the crazy real estate is the worst thing in the world right now. But it came out of equilibrium. 2012, it was still in a device to buy rather than rent, but not quite as much. The real estate market surprised me, the model, I was to bullish and release it in general, but I think it better than we expected. So even at times that the probability of owning or lower, we know that we stood ahead. Because if you were to house in 2012, 13, 14, 15, almost any of those times hold it for eight years in the US on average. You benefited from unusual price appreciation with your head off rent you home. Just to clarify, so it's a national index, right? It uses house prices from all over the US, because there will be obviously a lot of local variation. Yes. So we did one that was national on the paper. We do one for every of the four regions. The index we did for national plus 23 other cities. And now we're running different indices that are not necessarily by restaurant, but kind of an evolution of that price premium indices. We do it for the hundred largest metros in the country. And what is it saying now in terms of favorability of buying versus renting? Right now there is a slight moderate for ability, depending again, the area for renting, but it doesn't screen that. There is one thing that the model does not consider and maybe it's due for some, I guess, correction or tweaking there, because it does consider again, the price of the home, the price of the rent, expected price appreciation, interest rates, cost of ownership, like insurance, property tax, et cetera. And some are version to the mean. What it doesn't consider is the overall supply demand, equilibrium in the market in terms of the number of homes that we have in the market versus what we actually have. We know that in the United States right now, there is a severe shortage of housing. If you really think about it, looking at numbers, around 2006, 2007, we had a surplus. So we have too many homes, about three million homes, altogether. And then we know what happened. Too many homes, whatever happened with the economy and basically severe housing price collapse. At that time, basically all construction virtually stopped. And we're building significantly less homes than we needed every year since 2008, 9, 10, 11, 12. I'm talking about 300, 400, 500,000 homes less than we needed. And I say we need an amount of familiar to support natural population growth, that is immigration and natural birthings loop exceed mortality. And at the same time, about one to 1.5% replacement of the existing stock, because housing gets obsolete. Some houses are becoming unusable at some point. Those need to be replaced. So in those years, talking about between 2007 and 2012, we built about 400 to 500,000 homes less than we need. And we'll reach equilibrium at that time. But guess what, since 2012, until 2023 or so, we continue to build two few homes. That's a long time. That's another 12 years after you reach equilibrium, that you continue to build two few homes. And that is because a lot of the builders when bankrupt, those that did not go bankrupt, just become a lot more cautious and did less. We created ourselves around 2023 to 2024, a shortage of 4 million homes. Since then, we build about the same or maybe slightly more than we need. But it's a drop in the market that we still somewhere between 3.7 and 3.9 million homes shortage. That's a big number. Add to the fact that not only it's a shortage, there is one thing about having a shortage. Let's say you have a shortage of iPads in one location. The cheaper one place, you have too many to a place where you don't have enough. In the house, we know it doesn't happen. You can have a surplus in one location. And it's shortage somewhere else. Maybe overall, you have the right amount of housing, but you don't have it in the right places. And you still have shortage in places where people want to be. And we know that COVID change where people want to be. COVID change type of property that people want to live in. A lot of those things. So that number, that is 4 million of shortage, is without considering that location need. So to put this supply demand in balance, that should fit also in the model in the dozen. And that is probably why we got higher price appreciation than the model would expect without considering that. The model can't be perfect. Otherwise, it would just be reality. Well, we can always improve it, but I'm always working on something. That's good to hear. I look forward to the updated version. You gave that example where the model did not work. But more generally, when you've studied it, how well does the index predict house price movements? We had a paper that tested that against what actually happened and the predictability is extremely high. Not so much in a sense that the model say it will increase by 4.5% increase at 4.5%. I'm not talking about that type of predictability. I'm talking about the predictability that if you are predicting, let's say, the 23 markets, 100 markets, and you say, these markets will perform better in the other one. They generally do. And those markets were for worse than other ones. They generally do. That predictability is extremely high. And actually, I use that model. I don't know if you're familiar with the post-synomic survey that they have. Basically, they're asking leading, real estate economists, and real estate experts. They're asking them about price appreciation over the next few years. And I'm one of those people feeling that survey. It's about 150 of us. They publish our opinion. And then they go back and say, OK, here's what you thought. Few years later, here's what happened. So I'm on the 150 or so economists who are as professionals that guess or model or whatever it is, how to make a prediction. I mean, that was number one in that prediction. So I actually just received that word. That's pretty cool. The master forecaster, yeah. Master forecaster or a good model. Yeah, I guess I was showing the show. They give me a crystal bowl for the crystal bowl. But answer your questions of how well it predicts the idea is that, of course, the future is unknown. But if you use good data and you have models that are based on real factors and fundamentals, you're going to be wrong in the short run. You're going to be a little bit off an upside-down side each period. But on average, you're going to be correct. And that's really what we try to do. It sounds a lot like discount rates and stocks. You can look at the Shiller Eurings yield and say, expect the returns are low. And that's usually not good enough to predict market returns in a way that you can time the market to profit. But it is kind of useful where it explains some portion of future returns. It sounds kind of similar. I like the Buffett answer even more or the approach. The weighing machine versus loading machine kind of thing. So the short run is loading. And the long-term is a weighing machine. Even Buffett, by himself, will tell you that he can never predict what's going to happen over the next year and somebody that tell you that they do their either full or the line to you. But over a long period of time, it is quite easy to say, OK, over the next 10 years, stocks will do better than they did over the last 10 years or worse. And this is really what he's doing. So you have this great model in the horse race now that you talked about. We can show that, hey, the wealth of renters should come out ahead of owners most of the time. And I think that makes a lot of sense for all the reasons we've talked about. The reality, though, is that homeowners tend to be way wealthier. Like in Canada, it's many multiples wealthier. Why? If we can show analytically that renting can come out ahead, why do owners tend to be so much wealthier? I would say it's not because of owning a home. It's in spite of owning a home. And I hear that a lot. If renting is so great, how all the renters not as wealthy. And the idea is that it is a selection wise. People that are wealthy can afford to buy a home. People that are not wealthy, not have enough don't pay man, cannot make well-fifled mortgage. Then they don't. The idea is that you're not wealthy because you're on a home. Almost in many cases in spite of. But also, really, if you think about it again, I mentioned before, it is a force mechanism for saving. It makes you discipline. You buy a home. And you're not going to sell it a month from now because your neighbor just sold it for 5% more. Then you bought it and you think you can also get 5% more. People would do it with a stock or they would panic if it's going the other way around. But we've only basically have this force mechanism. That is not only it appreciates, at least in nominal terms over time, you also decrease your debt over time simply by paying off your mortgage. And we're talking about large amount of money. Most people would invest in the stock market, for example. Again, I'm talking about the average person. They wouldn't just, oh, you know, so I'm going to just put the initial investment at $350,000. Most people, OK, I'll invest $5,000. And here's another 500. And here is another 1,500. So even if the performance there is high, we're talking about relatively small amount of dollars. If you think about it, there are so many people that have homes that are worth $450, $600, $800,000. But the stock price for you is maybe $50,000. I mean, there are a lot less people that have $800,000 for you. But if they're rich, their home is worth significantly more than their stock market for you. So it's really a selection bias for the most part. When people compare or look at how their wealth grows as a homeowner, I think the number one factor that they believe to be the generator of that wealth is price appreciation in the homes. And I think a lot of people believe that in general, houses go up in value at least as fast as stocks tend to go up in value maybe more. So can you talk about how important property appreciation truly is? And if it's not the most important factor here, then what is? Probably appreciation is the most important factor in creating wealth when you own it is. But property appreciation is, by far, not as fast as return on stocks. And it shouldn't be because, really, you're getting out of benefit from living a home. It is a place for your life where you raise your family. So that benefit, you can think about it as a cash flow because if you would not live in your own home, you'd pay somebody else whatever that home is worth every month. So together, the two should be maybe somewhat comparable to a commercial real estate return between price appreciation and what you would have paid yourself in rent, but price appreciation by itself is not nearly as high as stock appreciation. It can be a little bit more infecited because it's important. We're talking about price appreciation versus inflation. And basically, price appreciation inflation are very, very, very similar, which means that home prices on average do not appreciate in real terms-- when I say real terms, I mean, adjusted for inflation. And that means that if you have no real price appreciation, but at the same time you have to pay insurance, property taxes, maintenance, you basically, from a financial perspective, in real term, you losing money every year. It's like, well, how does it make sense? Well, yes, it's not that you lose money. It's the cost of living in the home. You're living it out, but this is the benefit that you get. If you look at real estate index returns, especially in recent history, they look pretty high. I was talking to some of the people from Statistics Canada recently, and I figured out how to isolate the amount of renovation spending that Canadians do every year from their data. And it's huge, because a proportion of the net housing stock in Canada is massive. And so you look at index returns, a meaningful portion that has come from people's spending, not just on maintenance and depreciation, but on renovations like on a property improvements. Yeah, and their indices that consider that-- OK, but commercial rates say they consider that. People will be surprised at, for example, the capex or the expenditure on repair offices is very high, less low for retail, even less so on the family, very low for industrial storage, et cetera. But regardless, all of our universe is a big number. And again, when people are thinking about, OK, I bought this house for $200,000, and so it later for $400,000. And let's say it was over 10-year period, so I doubled my money. It's like, well, you really have to think about it. First of all, you're talking nominal or anything. Well, most people don't re-understand defense, but it is a very important distinction. And the other thing is that what happened in those 10 years? Did you pay insurance? Yes. Did you pay property taxes? Yes. Did you fix this that? Did you renovate the kitchen? Did you renovate it? The answer to those-- almost all of those-- is yes. Yeah, they don't tell you that. They just said, I bought for $200. I saw over $400,000, so I made $200,000. And they ignore everything that happened in middle. It's almost like if I invested $10,000 in the stock market, I added $500 every month. And then I would be surprised that I have a lot more, significantly more, 10 years later, of course, not only because the stock's appreciated, because you continue to add money in. But those are things that homeowners tend to ignore. They know it happened. But nobody would say, I bought for $200,000, $400,000, minus the $150,000 that is spent in discounted and adjusts for risk. People don't calculate this way, which is OK. They're not academics. Finance is not what they do. But it makes their statement of, I double my money. Or this is the best investment I've ever made. It makes it often wrong or at the very least inaccurate. Yeah, I think yet a piece in there is compounding. They'll see what they bought for, what they sold for, what they won't consider the time that has passed. And over a very long period of time, you can get a really big dollar amount. But the compound return is actually really small, especially relative to some other investment like stocks. Can you talk about how important the renters' savings rate is for them to have a comparable wealth outcome to an owner? Again, the model is pointing to renters doing better than owners if they do other right things, meaning that investing in a right combination of stocks and bonds, if they are taking the down payment and investing it in a portfolio, also the additional cost of closing and any differential amounts. In reality, people don't. You ask before, for example, why renters are less well-fidden? So one thing is a selection bias, those that can buy buy. But even more than that, if you know that you need, let's say, to save $60,000 for down payment, you'd make a real effort to get there. That by itself, move you ahead. So you're going to give up a lot of other things. You say with $60,000, now you buy a home. It also means that you're a person of different character that were able to put together and save enough $60,000. You're not tempted by things along the way. That's another one of those factors that make homeowners better off. It's interesting that you mentioned that because I think a real-world experiment that you can use to see this tendency. I work with a lot of clients who had a year or two left in their mortgage and they would say to us, as soon as my mortgage is paid off, I'm going to take that $3,000 a month that I was paying to my mortgage. And I'm going to start saving $3,000 a month and almost nobody does it. And that is a real testament to this idea of forced savings is a lot easier than optional savings. You don't have a choice between paying your mortgage and not paying the mortgage. But you do have a choice between saving and spending. And just for most of us, the spending just comes so much easier. I have very rarely seen people making that transition from forced savings to optional savings. And I think the renter is making that decision every month because there's no forced savings. - For most people, actually the best decision from a monetary perspective is still to own a home, even though if you do the perfect horse race comparison and you do the right thing, you should be a renter. But owning a home still works for most people because it changes the way they behave in a way that mortgage for investor, for saving, long-term holder, et cetera, et cetera, et cetera. Working or to get to this down payment, upgrading their home because once you have a home, it's nice. But after a while, it's like, well, can we get a bigger one? And then you continue that cycle. And that's why most police-American owners, the majority of the wealth is the equity to having a home. - I do want to come back to that question later. I want to ask about who should rent, even if we agree that most people should buy. I did a YouTube video on this that has not been released yet. It'll come out this Sunday at the time that we're recording. I say that most people should probably own a home, but then I joke that the nerds watching my YouTube channel about finance are not most people, or any come back later. So we've talked about rent versus zone in fairly general terms, but homes are an asset that can fit into the overall household portfolio. And you talk about the paper that you did and how you set the model up to compare the risk-adjusted wealth accumulation of rental and owner households. - So we followed up this study with another study that instead of just looking by versus rain in a vacuum, because you always take a step farther of, okay, a home is one of the things that we have in our portfolio. And then you say, well, you know, is buying a home makes sense when it's not the only thing, but it's one additional thing that you have in your portfolio. And the results are basically such that it makes a home ownership a little bit more attractive than if it looks in a vacuum, because it has some hedging characteristics in addition to the other things you have in your portfolio. The problem is, for most people, people that don't have a lot of wealth, they have very little of other things beside homes, and then home become too big part of their portfolio. So again, the example of a middle class family that made home, almost by default, because house appreciates so much, they own a $500,000 home, but they really have a stock portfolio of $50,000. And by the way, their net worth is $500,000, and maybe you have a mortgage of $300,000. So the net worth is maybe $250,000, but the home is twice as much as the net worth, because the home is worth $500,000. That brings them this over leverage, high volatility, et cetera. And for those families owning a home is still less of the dangers than renting. Again, from a portfolio perspective, where it makes sense to own a home, from a portfolio perspective, is where owning a home and the down payment to owning that home is not too big part of your home's role, but for you. Meaning that let's say you have a middle door, net worth, and you can put $200,000 into a down payment for home, and the other 800,000 is present somewhere else, maybe take a $300,000 mortgage, but in those cases, homes have hedging characteristics that make it a good buy. In addition to all the things that we can not measure. - That's really interesting. So someone who's relatively high net worth buying a home, making the home on an asset that's part of their broader portfolio, actually looks pretty good on a risk-adjusted basis, but if you're overreaching to buy a home and it's your only asset, you're making yourself worse off. - And also overreaching and the problem that a lot of people have. I tell people you should decide whether you want to take a 30-year mortgage or 15-year mortgage, but I'm telling you, if you cannot afford to take a 15-year mortgage, you probably should not be buying more. Well, but I'm not taking a 15, I'm taking a 30-year, well, that's okay. You can still choose to take a 30, but if you cannot take a 15, that means you're stressing yourself too tight, and that means the first thing that is going to come along whatever it is, major repair, et cetera, you're not going to be able to handle that, you may be getting into financial distress, and the outcome is typically not favorable. - Only home kind of sucks. I rented it for a very long time. I bought a house four years ago now, and it's brutal. It's not fun. - What is it that you don't like about it? Is it the headaches, the maintenance? - That's what I mean. I like the house that we bought, and I like where we live, but you hear a noise and it costs $10,000. That part's not that fun. So it sounds like for what you just said, Ellie, for Dan and I, who tend to work with relatively high-end worth investors, in their case, owning a home probably makes sense, because it hedges their housing costs, and it fits into their overall portfolio. It probably does. It also makes a lot of sense in places where you're really looking at a boom city, and I happen to live in Miami. And really, the only way that you can hedge the cost, fleeting effectively, is the buying. So Miami, and I don't know how many of you viewers probably are aware, the cost of the Miami increase over time, because we can earn more attractive place to live in the opinion of the consumer, but it's really increased significantly during COVID, after COVID. So housing prices doubled, and more than double in the cases, they can have very expensive place to live. And some people are leaving the town because it's too expensive. Those people leave town until it's too expensive. Those are not people that own them. People that own a home, they basically locked the biggest item on their whatever the budget, which is home ownership, home cost, or mortgage, whatever it is. It's a fixed rate, most of the time. They're increasing taxes or kept by law here. Yes, insurance is volatile, but still not a huge part of the mortgage. So they're not being forced to leave. The people that need forced to leave are those that used to rent a place for $2,500, but now it's $6,000. And it's really happened over a three or four year period. If you cannot afford it $6,000 instead of $25,000, and most people can, you have to find a solution. Buying a home make a lot of sense for those areas where you have limited amount of land. And there is something happening in this city and the area that may make it prohibitively unaffordable. And Miami's one of those places. So again, people here that asked me should I buy a rent and I tell them again, here's the analysis, what happened in Harvard, et cetera. But really, if you really want to protect yourself and you want to stay living in Miami for a while, you probably should buy. And that is one thing. And then if you want to hedge all the rest of the cost of leaving Miami or in other place, then you should buy yourself a rental property. That again, you hedge your own cost of leaving by your own home. And then as a city getting more expensive, if you own a rental property where there is a four-plex or town homes, whatever it is, the rent that you receive is now the higher allow you to do the other things that the city is asking more for. And those tend to be highly correlated. So it's not like grocery costs are going up and private schooling costs are going up. And then a rent does, it typically go hand in hand. So I'm not saying one to one, but it's probably the closest hedge you can get. If you own a rental property, any own your own home, in the area really, it is extremely unlikely you're going to be kicked out of that city because it becomes unaffordable to you. That's my favorite argument for owning. I completely agree. The thing that I'm always careful to say, though, is that a hedge can cut both ways. If living costs are going up in the city, great. But I look at Toronto in March 2022, it is $1.3 million for a composite index to buy a home. And as of March 2025, it's just over a million. It's great if living costs are going up, if housing costs are going up. But you have to be really certain you're going to stay there for a long time because the person that bought in Toronto in 2022 and decided to leave now. And that's the thing. If you decide to leave from Toronto to a different place, I understand. So if they decide to leave, I'm assuming they're going to be moving to another city in Canada most likely, where probably the price, it's unlikely, even though it's possible, it also wind up. So they are selling for 20% less, but also buying something else for 20% less. And those that are not selling, you have to think about it. And again, we have a lot of discussion about that. Your house went up from a million to 800,000. But guess what? Your house is still a three bedroom, two bathrooms. It's still in the same neighborhood, and the same amenities in the same school. You didn't really decrease your lifestyle because of that. It is different if your portfolio is going down, or if your income is coming down, or if any kind of benefit you receive changed. But in this case, the amenities you receive from that moment is exact. The same size is the same neighborhood. It's the same benefit you receive every month. It's just less. And even more so on the upside, if you really think about it, people that feel richer because they have a property that they bought for half a million. Now it's a million. They have more net worth, but the lifestyle did not change. They still live in the same place, same neighborhoods, same size apartment, et cetera, et cetera. The only thing that changed for them is that it becomes more difficult for them to upgrade their home because now prices double. So they're property went from half a million to a million. Let's say that historically, they can add 100 or 200,000 dollars and get a significantly better home that they wanted at some time, but wouldn't afford it. Now it's not 100 or 200,000 or more. Now it's four or 600,000 or more. Okay, makes more difficult to make it the next level. Yes, it's going both ways, but it's clearly a hedge. And you really have to think about your housing wealth and how much wealth you generate by increasing the value of your homes does not really change your quality of life. To me, somebody who's wealthier, somebody who can afford a higher quality of life, if you just have more dollars to your net worth, but your lifestyle is the same, then depends on what definition you use, but I would say you're not wealthier. So we've been talking about how real estate prices change and a lot of it sounded like a discount rate story. But anyway, how efficient do you think the real estate market is relative to the stock market? The real estate market is a lot less efficient than the stock market. There is no doubt about it. And there's a lot of evidence that I can predict where housing prices will be higher than with pretty high probability, I can predict that city A is going to appreciate faster in CDB, you cannot predict with any high probability. Basically 50/50, if I give you two stocks, which stock you're going to do better? Next year, stock X or stock Y, you can guess, but you're going to be 50/50 in most cases. On housing, I can probably do that with a 80/20 probability, simply based on momentum and a few other factors. There's a lot of evidence of the housing market is a lot less efficient than the stock. It's just more predictable. What do you think causes it to be less efficient? One of the main things that make it less efficient is the fact that most transactions are being done by non-professionals. Think about it, who own home? It's just the average person that own home. They're a nurse, they're a doctor, they're a engineer, they're a scientist, teacher, whatever it is, they're not a real estate professional. These are the people that buy and sell homes. They're the one deciding the price of home just by selling it. That's very different than the stock market where the majority on the margin, the price of every stock is being decided by professionals. That run flash analysis and the predict what's going to be the earning off this company versus the other company in the future, et cetera, and it pricing it every single second of the day, just that pure distinction between price determined by professionals, then this is what they do versus price being determined by just the average homeowner make the stock market a lot more efficient. In addition to that, I can give you 20 factors, but we don't have time, but I think another big one is the emotional factor that's going into buying. I don't know if you're married, but if you are, you can describe to your wife, for example, when I'm half joking, but that this house is a better deal than this house. They're just a better value. And you can maybe put an Excel spreadsheet, and you can show her that you get more money for a square foot, and all this is nice and good. Except if your spouse feels better in the house that is maybe not as good of a value, then it doesn't matter. It's an emotional connection. It's an emotional decision, of course, financial too, but the logic is an emotional. And sometimes they would pay more or less for a home, just because how they feel about it. Not necessarily because it's a good value. That's why I tell my students all the time, you can relatively easy find deals on what I call a piece of property. That's an investment property. And I bought it in the past, I bought properties, side and sink. I know the area, I know that, you know, you send a broker or whatever, you can buy it based on the cash flows. But on a home, it's a lot more difficult to get a great deal. Something that is offset and really cheap and you happen to love it, more difficult, a lot more difficult. So the emotional part and the fact that is professional versus non-professional determine prices, those are probably the biggest two factors. Can you give us some examples of those emotional or psychological biases, like specific ones? And I'm wondering when people are selling their homes, I think there's a tendency to exploit some of those psychological and emotional biases in order to get a higher price. Is that something you can think of examples of? - I don't think they're trying to exploit those, but it's definitely a bias of my homes the best. Look how beautiful it is. And I know that the neighbors sold their house for 50, but ours, of course, is a lot nicer. And really, to them, it is nicer because they have maybe memories there, they have an action, it's their choice of whatever the carpet, the wood, the kitchen, to them, it's the best. Many times, I think the job of our good readers of the agent is to kind of bring them down as well. I know you love the home, you have emotional connection, and maybe you raise three kids here, and you have a lot of good memories, et cetera. But at the end of the day, this kitchen is dated. And this carpet, it's your choice, and that's fine, but whoever's going to buy it is going to probably completely replace it. Those are actually the kind of things that need to be worked out during transaction, and that's why it's an emotional decision not just for the buyer and for the seller. I don't know if that was specific enough, but that is definitely a factor that need to be considered. - Sounds like the endowment bias. People value it more just because they own it already, and maybe familiarity bias too, I don't know. So you've said, and Dan and I have said this on this podcast too, most people should probably buy a home or own a home, as opposed to renting for all of the behavioral and hedging reasons that we've talked about, but we've also established that renting can come out ahead. We can show in a model that renting should come out ahead more often than not. What are the main decision points that would push you or lead you to push someone else one way or the other between renting and owning? - We talk about why you should be buying, and there's a lot of reasons for that. On the rent side, I think the people that, again, for them it's a big stretch to buy a home, meaning they need to be too big of a mortgage, the mortgage payment will be too big part of their monthly income. They may not be able to afford a repair or things like that. That's number one. And then, probably, I'm surprised that, especially for young people, those people that are young professionals, they would move around a lot more often than they think they were. So as you're becoming more violent in the market, it is likely you're going to be moving out from one position to the next. How many times there is a person that just bought a home? They got a promotion, but they need to move from Klanda to Chicago, and they wouldn't take this promotion because they just bought a home, except that if they're rent, they can just cancel the lease. Maybe they pay a small penalty, or maybe even their employer will pay that for them two months of rent, typically. They would take this promotion, they would make more money, they would move them ahead, for whatever the next position after that, et cetera. People underestimate how often you move when you're young. And this is especially true for large countries where every move is make it impossible to stay in the old location. So if you think about it in the States, if you move from Klanda to Chicago, you have to, you can just commute. Even in South Florida, if you're moving from, we got a position from Miami, now we got a position in Blocka, with traffic and all that, no, you have to move again. In those cases, if you move a lot, or if you expect to move a lot, even if you don't know it, probably renting make a lot of sense in large countries like the US. I'm originally from Israel. That palm is not there. So Israel is a very small place. And typically again, you buy your home, the home ownership is very high. And if you move around, then you drive instead of 30 minutes this direction, you just drive 30 minutes that direction. It's not like you're gonna be moving far as a way. There is no far as a way, almost. So yes, you're moving, you're moving one company into the next, so you get promotion, et cetera, but you can still keep leaving the same place. This is not how it is in the States. So transaction costs in terms of moving, leaving, and giving opportunity cause your own home is very costly. Again, something that's not considered, but should be considered. - Hey, Ellie, we always conclude our interviews with the same question. How do you define success in your own life? - I think success in my life or in anybody's life, what I would consider is being able for the majority of the time to do the things that you love doing. There's never 100% of the time. But if you can wake up in the morning, you know that for the rest of the day, you're gonna be doing for the majority of the time, the things that you wanna do, whether it is, work for people like, work in a field that you enjoy for the majority of the part, spending time in a place that you like with the people that you like or love, that's what makes it successful. - Agreed. - Part of that, of course, to do what you like is, it takes money because when you don't have money, many times you have to do things that you don't like, but if you're passing this hurdle, and now you can choose your clients, you can choose your coworkers, you can choose what you're working on, again, not all the time, but a large extent, I think you're successful. - Great answer. All right, that's it, Ellie. This has been a great conversation. We really appreciate you coming on the podcast. - Thank you, Ben. Thank you, Dan. I really appreciate it. I enjoyed that very much myself. - Thanks. 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