Don't fight inflation. It will beat you with a stick. Ride inflation by investing so you can beat it instead. Investing is the key to long term wealth. Inflation acts as a tailwind for your investment growth.
I'm afraid there are a lot of anti-real estate people out there who are missing a crucial economic paradox that will leave them in worse financial shape when they no longer have the ability or desire to work.
It's one thing to be against real estate because you can't afford it or don't know where you want to live for the next 10 years. It's OK to be against real estate if you've wisely invested in stocks, bonds, and other assets classes that have a history of going up over time.
However, it's not OK to be against real estate if you don't fully grasp the fundamentals or have never owned and therefore don't see both sides of the story. If you rent, you are short the real estate market. Nobody thinks shorting the S&P 500 forever is a good idea.
To beat inflation, invest in real estate through Fundrise. Fundrise offers investors private real estate funds that invest in high-quality commercial real estate across the country. Many of their deals are in 18-hour cities where there is potentially greater upside. You just have to do more due diligence when building your own select real estate portfolio.
The Government And Their Economic Lies
The government likes to tell us there is little-to-no inflation. They point to the Consumer Price Index (CPI) hovering at 1-2% as proof inflation is under control. Yes, inflation has been coming down since the late 1980s, but you and I know the CPI or any other inflation index the government points to isn't telling the whole truth.
Inflation is running MUCH higher for everything we actually spend money on: medical care, college tuition, energy, food, and housing. Sure, oil prices have declined 50% from its peak, but gas prices are still 3X what they were in 1995. Don't you remember 90 cents a gallon? Apparently new vehicle prices have barely kept up with CPI. But when the median price of a car is now close to $34,000 according to KBB, something must be up!
See this latest price change chart for various consumer goods and services. Unless you plan not to go to college, not have kids, not get sick, not eat, and not live under a roof, you are feeling inflation at work. At least we can buy all the TVs, software, and toys we want!
There are so many lessons from the last 20 years of inflation, namely, INVEST! Keep investing as much of your savings as possible to ride the inflation wave. Your rents, dividends, share prices, and property prices will tend to go up thanks to the inflation tailwind.
My favorite investments are in real estate, private AI companies, and dividend-paying stocks.
The Fed finally realized inflaiton is really and has aggressively raised rates since 2022.
Hard To Trust Government Statistics
Given any adult who's been spending money for at least 10 years can easily compare prices then to where they are now, it stands to reason government inflation and economic figures can't be fully trusted.
So why does the government manufacture misleading economic figures? The desire for social and economic stability. The Federal Reserve's job is to maintain a target inflation rate of 2% and help ensure maximum employment. As long as the public thinks everything will be OK, there's a greater chance that everything will be OK. There won't be mass hysteria or a revolution as we've seen all throughout history. Remember, the #1 goal for all politicians is to stay relevant and powerful.
Imagine if the government reported the true inflation rate of say 6% per annum. Producers would raise prices more aggressively. Input costs for everything would go up. Interest rates would rise. Demand would eventually drop, the stock market would collapse, unemployment would skyrocket, and the economy would eventually come to a halt.
Drastic changes in the economy over a short period of time wreak havoc. Instead, the government and the Fed tries its best to minimize boom / bust cycles by reporting more innocuous figures.
Note: If you're wondering why the CPI can stay low despite everything that we spend money on goes up much faster than CPI, all you've got to do is adjust the weightings of the variables to determine CPI. For example, the government can overweight Clothing and TVs while underweighting Tuition and Medical Costs.
How Are Consumers So Easily Confused?
After publishing Buy Real Estate As Young As You Possibly Can Possible, a reader disagreed with my truth after I just locked in a 2.375% 5/1 ARM. Here's what I wrote,
“Despite inflation, interest rates keep coming down. This is the goldilocks scenario for all real estate investors who get to take advantage of record low mortgage rates while also raising rents.”
His response, “No. Rates keeps coming down because inflation is nowhere to be seen. Rest assured if inflation ever revives, rates will rise too.”
This reader's response should be MUSIC to any government official's ears because the government has successfully convinced this person to believe there is no inflation.
When you believe there is no inflation, you are much more amenable to paying $4+/gallon for gas, $41,000 for private school tuition, $25 for a t-shirt, $24,000 for an economy car, $12 for a salad and $3,600 for a one bedroom apartment without rioting. But just look at the national rent versus median income chart. It's obvious rent is outpacing median income growth.
Here's another comment I left on an ABC article on inflation, “Interest rates will only rise if the Demand for money rises. Demand for money rises when there is an acceleration in the global economy. Guess what happens in such a scenario? The value of your house also inflates at an accelerated pace as well.”
And this was one person's response, “Interest rates rise when central banks raise interest rates. Demand has almost nothing to do with it.”
Demand has almost nothing to do with it? My head is hurting. The general public has no idea what they are talking about when it comes to economics and finance.
Rich central bankers raise their interbank lending rates to fight inflation and reduce the demand for money. Demand has everything to do with interest rates and inflation.
The Market Determines Mortgage Rates
The market largely determines mortgage interest rates, not the Federal Reserve. The Federal Reserve controls the Fed Funds rate, which is the shortest end of the rate curve. Mortgage rates are determined by the bond market and the 10-year bond yield.
For a deeper understanding of how the Fed can raise the Fed Funds rate, yet mortgages can still come down, please read: Should I Buy A Home In A Rising Interest Rate Environment? Explaining The Fed
Let's say you are STILL unconvinced there is inflation. Look at my chart again and focus only on the Cost To Rent and Cost To Own columns for a house I own in San Francisco.
The putative cost to rent has gone from $5,500 to $9,000 today, an 81% increase in 11 years. Meanwhile, the cost to own has fallen from $4,800 to $3,000, a 38% decline during the same period due to mortgage refinancing as interest rates declined. What a paradox!
Despite an 81% rise in rent, why does this reader still believe there is no inflation? I refuse to believe he can't read the chart. Therefore, the only likely reason for disbelief is due to the seemingly silent but powerful effect of compound inflation.
To get from $5,500 to $9,000 a month in rent in 11 years only requires 4.85% compound annual growth. But you can see how just a 2-3% difference above stated CPI can lead to huge numbers over time.
Long-Term Holding Is Key
Compound annual growth is why saving early and investing often is important. It is why having an appropriate asset allocation to match your risk tolerance is also extremely important. Compound annual growth is why paying expensive fees or having revolving credit card debt can really hurt your retirement goals.
And compound annual growth is why younger readers are almost always the ones who object to my wealth target charts because they haven't invested long enough to see compounding in action!
If the cost to own stayed flat while rents kept increasing 4.85% a year, that would be good enough for most homeowners and landlords. However, over the past 35 years, every single homeowner with at least 20% equity in their homes has been eligible to refinance and reduce their mortgage interest costs by 30%+.
Once the mortgage is paid off by 2025, the rent for this home will likely be over $10,000 a month and $8,000 after expenses into perpetuity. This is a valuable asset class that should continue to get more valuable thanks to inflation.
Inflation hits families the hardest. As a result, it's a good idea to get neutral real estate inflation by owning your primary residence ASAP. Homeowners and renters see the economy differently in an inflationary environment. Homeowners feel much better about the economy while renters feel less positive.
Be Flexible In Thought
You can highlight how people who bought at the very top of the market in XYZ city are still underwater to help justify your reason to rent. You can say that homeownership restricts your freedom to be a vagabond job hopper.
Further, you might even convince yourself that you always “save the difference” by investing in can't lose investments. Just know that shorting inflation by renting is a losing proposition long term.
There are actually people who bought equities at the top of the market and sold at the bottom too you know.
Do not be in denial.
Heads You Win, Tails You Win
If you want to gain wealth become a price dictator, not a price taker. Here are three scenarios where a real asset owner wins:
1) Let's say there really is no inflation as the government and the reader says. Take advantage of low interest rates and refinance your mortgage to lower your cost. I recommend Credible, the best mortgage lending marketplace where pre-qualified lenders compete for your business. It's free and easy to get a real quote. Or, consider taking on cheap debt to invest or grow a business.
2) Let's say inflation is growing at a fast rate. You can now raise rents an equal or greater amount on your rentals while making the same mortgage payment.
3) Let's say there's hyperinflation. Wonderful! Your real asset is hyper-inflating as well because it is part of what defines inflation. Rent is also rising like crazy. You can't refinance because rates are higher, but at least your monthly mortgage payment still stays the same.
Related: Why Low Interest Rates Are Probably Here Forever
Defending Yourself In A Downturn
What about during downturns? Well of course your asset will deflate in value just like everything else. So are you really hurting since everything is relative? In a downturn, interest rates decline because investors seek the safety of bonds, allowing you to refinance. But rents are generally sticky on the way down due to one year leases and the pain of moving.
You can believe all you want that getting neutral inflation by owning your own property is a bad financial move. But there is a reason the median net worth of homeowners is 31 – 46 times greater than the median net worth of renters according to the Federal Reserve Survey Of Consumer Finances. Inflation is too powerful a force to combat.
Just don't be a mad gambler and tie up 80%+ of your net worth in your home like the median homeowner does. Build out your net worth with multiple asset classes.
Don't Need To Be A Genius
Thanks to inflation, you don't need to be a real estate investing genius to do well over the long term. We will go through down-cycles. There will always be people who bought too much house at the top of the market or couldn't hold on during a downturn. But for those who do buy within their means at an appropriate time, things will probably turn out just fine.
This exact same argument can be applied to investing in the stock market. It's foolish to bash one investment class over another because it all depends on where you are in life, your goals, and your current financial situation. I so happen to place a large premium on living in a home where I now spend 10 – 15 hours each day.
Eventually, the US and other developing nations might turn into Japan, where interest rates go negative and more asset prices fall beyond just electronics and apparel. But today is not that day because the U.S. demographic is younger, we are more productive, and we have a hire and fire culture that allows for more rapid innovation.
Investment Recommendation
If you don't have the downpayment to buy a property, don't want to deal with the hassle of managing real estate, or don't want to tie up your liquidity in physical real estate, take a look at Fundrise, my favorite private real estate investing platform.
Fundrise manages about $3 billion for over 380,000 investors. It primarily invests in Sunbelt residential and commercial real estate where valuations are lower and yields are higher. I've personally invested over $270,000 in Fundrise and Fundrise is a long-time sponsor of Financial Samurai.
Another great private real estate investing platform is Crowdstreet. Crowdstreet offers accredited investors individual deals run by sponsors that have been pre-vetted for strong track records. Many of their deals are in 18-hour cities where there is potentially greater upside. You just have to do more due diligence when building your own select real estate portfolio.
Invest In Private Growth Companies
Finally, consider diversifying into private growth companies through an open venture capital fund. Companies are staying private for longer, as a result, more gains are accruing to private company investors. Finding the next Google or Apple before going public can be a life-changing investment.
Check out the Fundrise venture capital product, which invests in the following five sectors:
- Artificial Intelligence & Machine Learning
- Modern Data Infrastructure
- Development Operations (DevOps)
- Financial Technology (FinTech)
- Real Estate & Property Technology (PropTech)
Roughly 55% of the venture product is invested in artificial intelligence, which I'm extremely bullish about. In 20 years, I don't want my kids wondering why I didn't invest in AI or work in AI!
The investment minimum is also only $10. Most venture capital funds have a $250,000+ minimum. In addition, you can see what Fundrise is holding before deciding to invest and how much. Traditional venture capital funds require capital commitment first and then hope the general partners will find great investments.
For more nuanced personal finance content, join 60,000+ others and sign up for the free Financial Samurai newsletter. Financial Samurai is one of the largest independently-owned personal finance sites that started in 2009.
Sam, I enjoyed the article and agree with just about everything you said, but am confused about this passage:
“When you believe there is no inflation, you are much more amenable to paying $4+/gallon for gas, $41,000 for private school tuition, $25 for a t-shirt, $24,000 for an economy car, $12 for a salad and $3,600 for a one bedroom apartment without rioting. But just look at the national rent versus median income chart. It’s obvious rent is outpacing median income growth.”
Thinking about this, I personally would NOT be willing to pay more money for a given good/service if I didn’t think there was inflation. ‘Why is the price going up if the overall price level is not increasing?’ ‘If there is no inflation, why did my rent just jump 10%?’ I would think the landlord is just trying to insert more margin given the fact that I don’t believe his operating expenses similarly increased.
If I believed there was no increase in the price level and a T-shirt going for $24 was $12 last year, I would pissed. ‘There is no reason for the vendor to raise the price! I’m going to take my business to a vendor that didn’t arbitrarily raise t-shirt prices!’
Am I thinking about this wrong??
It’s a fair way to think about things. But I’m just taking it one step further by pointing out that even after I’ve already raised my prices and my clients don’t think there is inflation then it is quite a good deal. I’m trying to point out in the above example that even if 4.8% annual increase in prices results in an 81% increase over 11 years. It’s a stealth inflationary increase which people just aren’t aware of who don’t pay attention and who don’t dictate prices.
But one day you might wake up as a price taker with that “oh shit” moment where you wonder how prices got so crazy. This is what happens with rent for example, and with many other services and goods.
So I encourage people to really buy hard assets and other asset classes that have historically kept up with inflation at the very least.
Thanks for reading
Here in Brooklyn NY, the mantra has been to buy whatever realestate you can whenever you can. Prices are almost always going up and so are the rents. Not that exceptional to see properties close to double in value in a 8 to 10 year period. Vacancies are unheard of as people are willing to bribe to get into leases. In such a location and enviorment, which fool would not buy as much as possible and continue renting?
Because not everyone lives in SF, NYC, or DC. I absolutely believe that if you ran a CPI with only “elite” zip codes in it, you’d see prices skyrocketing. Here as I write this I’m in St. Louis. Prices are well under control here and have been for some time. There’s a huge surplus in the labor force, and rents are very low. I think people in the most desirable locations sometimes have a colored window to view stats like CPI through. Just a thought
Yes, there is definitely less inflation in the middle parts of the country where the labor force is less robust. But there are other issues, most notably the lack of well-paying jobs and a high demand for labor.
So which is worse? Not that many jobs that are high payingor high inflation with lots of high paying jobs? Hard to say.
In other words, there is a reason for everything. I home prices just don’t happen in a vacuum.
Article posted today on the subject
Great video and article. Folks should read and have a look.
“Wealth generates wealth, especially now, in an economy that has been rewarding people who own stocks and other financial assets a lot more than people whose income comes primarily from working. And new research shows that wealth inequality is growing in the housing market, just as it has been growing in the broader economy.
Real-estate research firm Trulia recently found that homes in the highest-priced cities have appreciated far more than homes in lower-priced cities during the last 30 years. That means people who can afford to buy homes in the costliest cities earn a far higher return on their investment than people who buy in cheaper cities.
“The difference is quite stark,” Trulia chief economist Ralph McLaughlin tells Yahoo Finance in the video above. “There’s a really big difference in how much wealth is created across the country.”
San Francisco is the nation’s most expensive market, and the median home price rose from $161,000 in 1986 to $1.06 million today. That’s a gain of $898,000, or 558%. A theoretical family that bought such a home 30 years ago and sold today would have added nearly $900,000 in wealth, which could be invested elsewhere or passed onto children.
In Dayton, Ohio, at the other end of the scale, a median-priced home appreciated from $51,000 in 1986 to $103,000 today. That’s just $52,000 in new wealth, or a 101% gain.
Living costs are far lower in Dayton than in San Francisco, needless to say, and somebody with a job in Dayton may have zero interest in relocating to San Francisco. It might even seem absurd to move someplace where it’s so much harder to buy a home.”
Breakeven point is 5-7 years owning versus renting according to this Trulia fella. Probably about right. Give it 20-50 years and the contrast is stark.
People are always so quick to believe government data because it can be very hard to disprove. And when you repeat something enough times, it “morphs” into truth.
Inflation is high, there’s no way around it. I look at prices a decade or two ago and I look at them now and there’s no way to deny it. And no way to deny that our paycheck a simply aren’t keeping up.
I think people are shying away from homeownership because they look at most Americans–who are doing it wrong–and think there is no other way to own a home. Tie up your net worth in a non-income producing asset that sucks away your money, time, and labor, and then watch it get swept away in a hurricane. Between that and the modern workforce requiring a more mobile worker, I think people look at owning a home and go “Nope. I’ll just rent.”
Sincerely,
ARB–Angry Retail Banker
I think people don’t notice inflation for a couple reasons.
The first is that people have very short memories.
The second is that the prices people notice are the ones that are falling or staying the same. People see tuition, rent, and healthcare as necessities that have to be paid for no matter what, so they don’t even think about the price. Whereas things like TVs are optional, so people are much more in-tune to the price of them, and when they see how dramatically prices drop, it seems like there is no inflation whatsoever.
To continue our discussion:
“What is your solution if I can’t convince you that many other parts of the country have experienced higher than average inflation appreciation? Have you done research on cities like NYC, Portland, Denver, Austin, Seattle, LA, and Boston for example?”
I actually DO believe that some parts of the country have seen higher than average inflation appreciation, but I don’t need to do research to confirm it — it’s how an “average” works. Some areas have higher than average, some areas have lower than average, you tally it all up on a per capita basis for the entire country, and voila — you get a national average.
Multiply this by all of the products CPI tracks, and the national “average” on what consumers pay on each good, and you end up with an average CPI number. For some, this will vastly UNDERSTATE what inflation has been like for the past 20 years; for others, it will vastly OVERSTATE their personal inflation over the past 20 years. You combine them all — you get the average.
Since you post seems to be about inflation/benefits of ownership, it’s important to note that 64% of Americans (roughly — if fluctuates) own their home, meaning just 36% rent. So whereas you (accurately) note that be refinancing in this current low interest rate environment (itself a reflection of low inflation overall in the economy), you’ve lowered your mortgage costs on both your own home and rentals you own, so too have many of the 64% of Americans who own their homes refinanced into cheaper mortgages and reduced THEIR monthly housing costs. As a result, the CPI Housing line, while it may have gone up more than 61% for the 36% of American renters from 1996-2016 (and perhaps may have gone WAY up more than that in some areas) nonetheless was dragged DOWN to that 61% inflation number thanks (perhaps?) to the 64% of Americans who refinanced into lower mortgages and thus had lower than 61% inflation during that period (and some may have even had deflation).
I guess my point is, I’m naturally wary of any analysis that looks at carefully crafted, relatively steady, well-designed (albeit not perfect) statistics like CPI and says “those numbers are rigged!” They’re not — they are EXCELLENT tools for research, study, and crafting policy on a national level. The applicability of those numbers to your own plan/path may vary or differ, but that’s to be expected, because the numbers were NEVER DESIGNED to help one individual in terms of inflation forecasting, but rather serve as a way of looking at things on a national, average level. Certainly, policymakers/individuals living in the San Francisco area should do their own local calculations of CPI (indeed, many of these stats can be broken down to the state or municipality level, or have specific local/municipal level calculations and data) rather than focus on a national level average.
As for the guest post, no thanks. I’m not trying to make a case that inflation is lower (although, as a historical basis, this has been a low inflation period) than what the CPI says; I’m just trying to say that the data is what it is for the nation on average, and we do a disservice to dismiss that data without appreciating it as a generally accurate national average. Maybe this is just a bit of oversensitivity on my part to the typical election year “the polls are rigged!” folks that come out of the woodwork and don’t believe well-collected and sourced data because none of MY neighbors are voting for Candidate X! The numbers are what they are, and so long as you acknowledge the applicable confidence intervals/error rates and how the sample was collected, they tell you accurately how things stand now — you may live where 100% of the people vote for Candidate X, but there are plenty of other people who live in perhaps larger communities where everyone is voting Candidate Y.
I guess I’m just saying I don’t agree at all with those who deny valid, reputable statistics/science, or question the validity of thoroughly tested/scrutinized national numbers like CPI, or the unemployment rate, etc., and try to “unskew” them for biased purposes (and I’m not saying that’s what you’re doing! Just pointing out I’m sensitive to this…)
Sam,
The Planet Money folks had an interesting theory on inflation that might explain the general public’s view on it:
https://www.npr.org/sections/money/2015/11/20/456855788/episode-664-the-great-inflation
Basically, it seems public perception about inflation becomes a self-fulfilling prophesy. In the 1970s, people assumed inflation was always going to be rampant, and changed their behavior accordingly (i.e. – employers automatically assumed they needed to provide double digit percentage wage increases to their workers, because inflation). Now, the opposite is happening. We assume the Fed will keep inflation near 2% or below, and act accordingly.
Your example includes a city that just happens to have insane rises in appreciation and rent due to the tech scene. Also you live in the state that limits property taxes increases for homeowners…that is something the rest of the country doesn’t benefit from.
The thing with renting is, you always have the option to move somewhere cheaper, whether that’s staying domestic or going abroad.
I’ve always said that if you know you want to stay in the same place for at least five years, it probably does makes a lot of sense to buy.
But If you lose your job and own a house, it might limit the new jobs you can take if you are unable to sell your house? Then what?
As for me, I bought at the bottom in 2010 and sold last year. I don’t anticipate it going much higher. Last time I checked Zestimate, the value is about where it was when I sold, and the stock market is up. I’m happy with the choice i made. I value mobility at this time in my life.
When I owned my condo, it would stress me out if I left for long periods of time and left it unoccupied. For me, it’s personally freeing to not own real estate and to not have the associated debt. I don’t see a whole lot of personal inflation in my own spending in the 7 years since graduating college.
A lot of the stuff that your chart is showing as having huge increases year to year is stuff that would be more relevant for familiies. Childcare, textbook, tuition. With medical costs, as long as you have a good insurance policy ,you’re probably golden. I don’t tend to spend a whole lot on medical these days. Food/Bev is by far my highest spending category other than rent and maybe travel, but I probably spend less on that now than six years ago because I’m more mindful about it.
Tell me about how you bought a place and where you bought a place only two years out of college. That is pretty impressive. What was the purchase price and sales price?
“When I owned my condo, it would stress me out if I left for long periods of time and left it unoccupied. For me, it’s personally freeing to not own real estate and to not have the associated debt.”
Pls share more about this above quote. Why would going away for a long time stress you out more when you owned? Do you feel more things will break as a homeowner of an empty place?
The bottom wasn’t in 2010. Just look at prices before 2010. Then look back even further.
I’ve promised myself to never sell until I get completely sick of managing property and the commission rate drops to a more reasonable 2-3% of sales price.
Where are you reinvesting your proceeds if anything?
Well, I’m certainly not claiming to be any sort of financial genius, I’ve definitely had a lot of privilege (and luck!) in my life, for which I’m forever grateful. But I’ve also noticed a lot of apparent wastefulness living in those more expensive areas (does everyone really need a Lexus or Mercedes?) and that could be why a more down to earth LCOL area might look appealing to me from the outside for my desired lifestyle/personality. (won’t know until i try it…I’ve generally been more excited about the people I meet in IE vs OC, but most of them already have families, so it’s just a different life stage than me, and IE is still close enough to OC that it isn’t so much different, midwest or south would be a bigger difference I think…and I’ve always liked the people when visiting those places.)
As for my condo, It was a short sale in which the previous owner paid $350,000 in 2007. Absolutely insane to me that someone would pay $350k in that area, but that’s what happened. My 2BR cost $135k, and it was a few miles from my job (which paid me $52k at the time), so a down payment wasn’t really that high when you look at my income. And i was living at home before that, so 0 rent. When I sold it, it was $210,000. And it was a cash flow + rental for a couple years and I also rented out the spare bedroom for a couple of the years that i was living there, so you could say that it worked out for me….but it could have just as easily worked out the other way if my timeline on everything moved up a few years. My cousins are a few years older than me and they bought during the bubble. Very different outcome.
I wasn’t worried about things breaking, more about the place being robbed/valdaled because nobody was ever home. I also had some vacancies while I was renting it out. And having a mortgage with potential vacancies didn’t line up with my near-term goal of long term low budget travel.
I first put the proceeds into Betterment, But I didn’t like their one size fits all approach. My income was not in a bracket that warrants me being in Muni Bonds, and if it did, I should have been in a CA state fund, not the federal fund, but to betterment, whoever you are, you should be in MUB in your taxable account. No thanks. Same with Wealthfront.
I’ve mostly been in index funds since leaving betterment (mostly VTI and VEA, some VWO, which I TLHed with VT) but in recent months I’ve been transitioning to some low cost active funds because valuations seem frothy to me. How is Facebook the #9 stock in the country? I very well could be leaving $$$ on the table by doing this….but for me this makes sense and with not much of a tax cost, I went for it.
My tax advantaged space is all VEIRX with a little bit of Vanguard REIT Index.
In my taxable space, I actually have quite a bit invested with Mairs & Power (they focus on upper midwest stocks, [so there is a lot less tech vs. the index)] and have a a very low annual turnover rate.) Could not fund what i was looking for at Vanguard with regards to turnover and deviating from the index. The ER is def higher than anything else I own….
At this point, all my additional savings are getting plowed into cash and bonds to build up an additional safety net for when I quit my job….
Ugh. Not to be a hater, but arguing that the government’s CPI data is wrong is in the province of conspiracy-land.
The numbers are what they are. They are already a weighted average nationwide. Yes, your situation and the situation of others may mean you should weigh the individual components differently; indeed, the inflation rates themselves for different factors vary in different locations (I’m sure Silicon Valley rents have gone up far more and far faster as a percentage from 1996-2016 than rents in Cleveland, for instance). But as far as creating a national average inflation number, the government does a really phenomenal job.
Have rents/tuition/healthcare costs increased faster than the average? Yes…BUT THOSE FASTER RATES ARE BUILT INTO THE AVERAGE. Your cellphone bill/cable bill/car costs have gone up far LESS than that average, dragging those high rates down; your TV/computer is likely far CHEAPER than what you’d have paid in 1996, dragging the average down further.
Inflation has been, for quite some time, near historic lows. That does not mean there has been zero inflation — there clearly has been. Nor does it mean we’ll never see inflation again — we likely will, but I for one have a good deal of faith in the wisdom of federal banks to keep it relatively in-check. But if we had the more typical/historical 3% annual inflation from 1996-2016, we’d have seen an increase of 80% in average prices, not the 55% that you’re citing. If you had retired in 1996 and done forecasts using the 3% annual inflation typical historically, you’d have found you have GREATER purchasing power in 2016 than you would have imagined in 1996, on average.
Exactly. Which is why people must look beyond the data and realize the weightings in the basket is skewed towards making the overall inflation number look more benign then it really is.
People should not just take the government data as given and realize why date it is displayed as it is. An important theme on Financial Samurai is to encourage more people to think for themselves.
Just look at the example in the post where a reader thinks there is no inflation, despite me clearly showing that there has been an 81% increase in rent in the past 11 years.
Can you tell us about your situation and whether you own or rent and how the mortgage and rental figures have changed over the past 10 years where you are? Thanks!
But it’s not making it look more benign! It’s making it AVERAGE for the nation, which means for approximately 50% of people inflation will be less (i.e. less than 55%) and for 50% of people inflation will be worse (i.e. more than 55%). Thus for you, living in one of the costliest areas in the country, it makes your inflation look benign, but for many others in the country it makes inflation look far worse than it is where they live.
There was an 81% increase in rent for your house in your area. That 81% increase in 11 years was likely one of the higher rent increases in the nation (given the San Francisco market) — I’m sure the rent hasn’t increased at all in Detroit, for example (in fact, it may have suffered deflation).
I live in Chicago. Exactly 10 years ago, I had a two-bedroom, 2-bath loft in a pretty ritzy building in River North and paid $2300 a month in rent (I think – this was a bad decision, admittedly, but this was before I started turning things around). I now own (with my wife) a 3 bedroom 2 bath condo in Lakeview (so a bit further from the downtown/Loop area, but still El accessible) and we pay around $2550 a month in principal/interest/taxes/insurance/PMI (yeah yeah, I know — again, owning made far more sense than renting). I’d say rents have increased in the past 10 years, but nowhere near 81% during that time — they’d be lucky to have increased 40%.
I’ve also owned a single family, 3-bedroom, 2 bath house in Florida. Rent when I first bought it was $1200 a month; today it is $1600 a month. A 33% increase in 10 years — again, far less than the 81% you’ve seen.
Take a look at the chart in the post that shows the AGGREGATE median nationwide rent increase versus the aggregate median household income increase since 1960.
I just used my SF home as one example. Read the comments. There are many other examples. And if you believe NONE of the comments and my example, then just look at the aggregate media nationwide rent chart and accept that it has way outpaced income.
You’re the second or third person who has told me the Chicago area has really underperformed the country. What is going on there? To be frank, Chicago never comes up as a place people want to move to due to the 6 months of cold and the lack of employment growth. But maybe Chicago will catch up with the rest of the States.
Look beyond the trees.
I did look at that chart.
What it shows is that, inflation adjusted, rents have gone up 63% or so since 1960, while income has increased only 18%. So if in 1960 you were spending $1000 a month on rent ($12k a year) and making $5000 a month ($60k a year) so that rent comprised 20% of your income, you are now paying $1630 a month out of $5900 a month in income, or 27.6% of your income. So in 56 years (i.e. a HUGE amount of time), the percentage of your income devoted to rent has gone from 20% to 27.6%. Color me underwhelmed that this is a crisis (although I’ll readily admit, wages need to increase in real terms and we need to have more available and affordable housing stock to drive down rent increases through competition).
And your analysis ignores the significant changes to what is a median home in those 56 years. Compared to 1960, you are now likely to be living in a larger home (given that median home sizes have increased in 1960s), with more appliances (since a higher percentage of homes today have refrigerators, washers, dryers, dishwashers, and garbage disposals than in 1960) and amenities (walk-in closets are prevalent now but were rare in the 1960s; ditto jacuzzi tubs, rain showers, granite counter tops, central A/C, etc.) The “median” home today is arguably vastly superior to 1960 in ways that more than compensate for a 7.6% increase over 56 years.
And I don’t think Chicago has necessarily underperformed the country. Again, look at the “housing” line in your CPI chart — a 61% increase over 20 years. That’s just about a 2.4% increase per year, which seems close to what Chicago has probably experienced. I think you’re missing the forest for the “tree”, where the tree is the fact that your area has experienced an unprecedented level of growth in rents (fostered by the explosive growth of Silicon Valley) — not every part of this country is growing at that rate (even though we may be growing economically and/or in population terms).
Sounds good. What is your solution if I can’t convince you that many other parts of the country have experienced higher than average inflation appreciation? Have you done research on cities like NYC, Portland, Denver, Austin, Seattle, LA, and Boston for example?
Is there a guest post in your that you’d like to write to buttress your thesis? What is your thesis? I’d love to know more about your background. This is fun! And don’t worry about being a hater as you mentioned in your first line of your first comment. The more I can understand you, the more I can understand where you are coming from so I can learn from you.
Feel free to start a new thread! Thx
Thanks, Sam. Very informative post as usual.
Speaking of real estate investment timing, do you still feel good about the winter of 2017-2018 being a good time to buy? I’m living in the Boston area, so we have a similar real estate environment to SF, though ours is less insane of course.
I’m currently living in a slightly below market rental and buying a similar place would be much more out-of-pocket per month. Do you think it’s worth stretching to buy now? We can afford it, but it would be tight, and I’m afraid of buying at the top. Or do you think we should try to be tactical and enjoy our below-market rental now, while strengthening our balance sheet to be ready for the winter of 2017-2018?
Thanks again,
Mike
Hi Mike, you got to run the numbers and know how long you will be there for.
Stretching is never a great word to use when you’ve got to stretch to come up with a down payment to borrow lots of money. A stronger balance sheet is generally always a good idea.
I like the goal of coming up with 30% of the target value in cash so you have a 20% downpayment and a 10% cash buffer.
High end property is weak right now, but sub $1M is still quite strong. It depends what you are looking for.
Good luck!
Sam
Hi Sam,
People can just Google the historical price of bread, milk and eggs and see how the price has slowly risen overtime with some ups and downs over the past 10 years.
Real-estate inflation makes home prices rise, but do REITs also rise? I checked the chart on a couple (e.g., NLY) and over the past 10 years its price has been declining, any thoughts?
I’m not Sam, nor an expert in REITs, but I do some reading on them. I’d be more interested in triple net lease REITs (e.g. O — or Realty Income). The stock alone is up 172% in the last ten years. But if you look at total return (with dividends reinvested) it’s even better. The same stock is up 365% if you reinvested all dividends in the same 10 year period (source:
The trick is finding a handful of solid, reputable REITs that you can diversify across. Not hard to do with a bit of research.
Depends on where you live. If you’re tied to your job, locked to a city, and renting is just as costly as buying, then a house might be a good bet against inflation.
But then again in some cities, housing prices have barely kept up with inflation. Or in places like Edmonton, housing prices are going in the opposite direction.
Seems like the issue is that in cities with a lot of housing appreciation, people can’t access that home equity because it’s too expensive to sell and buy another place. And then in other cities, houses are cheaper but they don’t appreciate as much, so you’re barely beating inflation.
I do agree with you that we have to hedge for inflation, but housing is not the only way. Like you said, investing in stocks, bonds, other assets that have a history of going up, is another method. The people who are the worse off are the those keeping their money “safe” in a savings account. They’re the ones getting screwed the most.
For those in expensive cities, the hedge with owning is simply not paying ever increasing expensive rent. Homeowners in expensive cities have not only avoided paying expensive rent, they’ve also seen their home value go up AND they’ve been able to lower their mortgage payments over the past 30 years due to an incessant decline in interest rates. THIS is the great inflation interest rate paradox I’m discussing.
My mortgage for my rental house is HALF what it was 10 years ago, while the rent is up 81%, and my property value estimate is up about 67%. Forget about the rise in rent or the property value increase. Just having a large decline in the cost of the mortgage would be good enough for me.
I believe this scenario is being played out across the entire world as global interest rates decline w/ a rise in property prices. I also feel that in 10-20-30 years from now, the people buying recently will experience the exact same thing thanks to inflation.
Sam, my wife and I were renting in SF for years, both individually and then living together. We had a sweet, 900sq. ft. 1/1 on Chestnut & Leavenworth. The living room was huge and had a view of Coit Tower. You could even see a bit of the bay. I loved sitting on our sectional and watching the freighters come in. We paid $2,300/month when we moved in December 2012 which was a steal even then.
But still, as amazing as the place was we hated paying rent. We finally capitulated and bought a place in Walnut Creek in May 2013. My wife (then girlfriend… I proposed that July) was the only one between us with any savings. She’s skeptical of the stock market but a big saver and she had $120k to put down on a place. I had literally no savings as I’d dumped most of my money (and then some CC debt) into my startup company. So she bought the house 100% on her own (no parents, no help from me).
We couldn’t afford a place in SF unless we wanted a “junior” one bedroom which is really just a fancy name for something that should be called a studio. Knowing we were going to stay together and start a family in the near future, that just didn’t seem smart. So we opted for the burbs. We lost out on our first two places… first one to an all-cash offer and then the other simply outbid.
We juiced it on our third… there were FIFTEEN offers. Ours was the best, and we felt we overpaid but didn’t care at the time. We paid $609k for a 1,555 sq ft 3/2.5 town home that backs up to a golf course.
It seemed a bit nuts at the time, just three years ago, and the next year it “felt” like the real estate market wasn’t as nuts (maybe that was just because we weren’t hunting). But now, literally just three years later, the EXACT same floor plan in our HOA sold for $755k and it does NOT back up to the golf course. That’s 24% appreciation in 3 years. Or much more when you consider the leverage of a mortgage.
In short, I’m extremely glad we bought when we did. Most of our SF friends are a few years behind us and just now starting to purchase homes. One moved to Petaluma, two are looking in the Walnut Creek/East Bay Area and all are still having a hard time because prices have gone up so much.
The wife and I had our first born in June, and we’re now thinking about upgrading in a few years. We’d love to hold on to the current place and rent it out, although neither of us are keen on being landlords (would love thoughts on this!). We also have no idea how we’d be able to do it. The wife is a full time mom now (her dream job), and my startup salary is only $90k (has been for awhile… I laugh when people can’t “make it work” in the bay on less than six figures since we’ve been doing it just fine). That said, I am giving myself a raise to $150k in October which will make things much more comfortable.
Sorry or the tangent… what I was getting at there is that I have no idea how we’d get the down payment. We’d be looking at a 1.2-1.5MM place which means potentially $300k down on the high end. Selling our current place would get us there no problem. But if we want to hold onto it… I just don’t think it’d work. Curious if you have any tips for folks in this position where they feel like buying another place is too much of a stretch.
Also just realized I forgot to mention. When we moved out of our 1/1 I described, they jacked the price to $3,600. We hadn’t even lived there for a year and a half. Crazy! I can only imagine what it goes for now, some three years later.
Nice job going long in 2013! Not a bad time at all. Why don’t more of your colleagues consider that area? Do you work in SF?
I’ve found the easiest way to build wealth in RE is to buy a primary residence, live in it for 5 – 10 years, diligently save in the meantime, then rent your place out and upgrade to a new place. Do that 2-3 times and you will not only live a nicer lifestyle, but also have a good passive income stream when you no longer want to work.
https://www.financialsamurai.com/invest-in-real-estate-for-capital-appreciation-rental-income-or-lifestyle/
Do you really need to upgrade to a new, more expensive place at the top of the market now though? A 3/2.5 for three people seems like a perfect amount of space. It’s only been 3 years! Give it another 2 – 7 years of saving money and enjoying your place!
Congrats on your startup doing well to give yourself a 60% raise too! How is the funding environment and private company environment nowadays after the 4Q2015 scare and valuation crunch?
Sam
Hey Sam, I was working in SF when we first purchased the home in WC but we’ve since moved our office to Berkeley. Our company is only 4 of us, one of which works remote from Indiana, so not many to consider moving this way.
We’re not planning to upgrade now, but rather in ~3 years (around when we’ll likely be having a second child). I’d absolutely stash away cash to buy another place, but I’m not sure it’s that easy. Like I said, my wife is a full time mom now. That puts us on one income… my (soon to be) $150k. I’m not sure how we’d put away some $250-$300k in a few years time on just my income. We have maybe $50-60k right now outside of retirement accounts, so it’s a tall order.
I was also doing some back of the envelope math. Is owning a property really better than putting the same amount of capital into a rock solid REIT (say, Realty Income ‘O’ for example?). When you factor in property tax, time spent as a landlord, HOA dues (which we do have here to the tune of $280/month), and the potential for vacancies, I’m not sure you’re better off. Maybe I’m wrong, but could make an interesting blog post.
Thanks, very excited about the future of the startup. We’ve only raised a total of $500k in funding and we’ve had to reinvent the business about twice. So it’s been a slog these last ~5 years! We’ve finally figured things out though and will do ~$1MM in revenue this year and a clear path to doubling that each year for the next 5-7 years. So we’re no rocket ship but we definitely have things figured out.
Funding environment is cautious (to say the least). I have friends that could have raised without an issue 6 months ago and are really struggling to do so now. Even with great traction/numbers. Seems money is still flowing to mega deals or very early stuff, but a lot in between is being avoided.
It doesn’t bother me though. We’re profitable and not looking to take any more funding. Not that we couldn’t use it, it’s just I like the idea of bootstrapping and retaining control a whole lot more.
One other thought… of course the X factor in all this is my businesses. Conservatively we should be doing about $5MM in revenue in 2019. I have toyed with the idea of giving myself, and each of our employees, a fat bonus at that time. Say, enough to put down on a new real estate purchase.
It’s incredible how much can happen in three years. Three years ago I was paying myself $36k/year after making $12k in 2012 and $0 in 2011. So maybe I’m trying to plan too far ahead and just need to relax and give it some time.
But I would love to hear your thoughts on just taking the money you would spend on a property and spreading it across some great REITs instead. Have you ever considered that or done the legwork on if that’d yield a better overall utility for you?
Berkeley to WC commute is pretty good! I’d just stay, aggressively save, and make the move if you were to have #2.
You may very well surprise yourself with your business upside. Who says it won’t keep growing right? That’s what businesses generally do with the right execution, product, and brand.
REITs have done phenomenal so far, and they will probably continue to outperform in a low interest rate environment since money is chasing yield.
It is “pretty good” but I still hate it. We’re likely moving the office to WC when the lease is up in April :-)
Agree I need to focus more on the immediate path than so far out. The business will no doubt continue to grow. It’s now, finally, very scaleable.
And yes, REITs have been killing it and likely will continue. Need to deep dive on their performance in more “normal” interest rate environments when I do finally need to make the decision about keeping our current place or selling.
I agree with some of the comments on lagging price appreciation of real estate depending on your location. Owning a property in one location or even a couple is very speculative even in california. I sold a place in Los Angeles for $405k in 2004 ….12 yrs later its priced at $420k. Another place in los angeles i sold for $658k in 2006 and its now worth only 700k. I bought a residence in san jose in 2008 for 775k thats now priced at 1.2mil. It can be like owning individual stocks…. Very speculative
2006 was very close to the top of the market, while 2008 was during armageddon. Are you holding on to this one? Why so much turnover? I’m on strike and never going to sell a property until the 5% commission gets lowered. We’re in the internet age for goodness sake!
As an Angeleno who is active in real estate, I can’t imagine a place in LA selling for basically the same price in 2004 (although this is the year that things really started getting out of whack) as today. My guess is that this place is in Palmdale or a very very small condo.
Neither can eye. The only way we’ll know for sure is to get the exact address and see for ourselves. 2004 was a great time to buy practically everywhere.
Ist address was condo
4040 via marisol #220
2nd 1720 tenshaw pl.
Both in los angeles
I also own a nice townhome in redondo beach at 1800 s pch thats 8 blocks from the beach that i kick myself for not selling in 2006 when it was priced at $730k. 10 years later i still have it and its priced around $785k. Could have made so much more with that equity in just investing in an index fund like vtsax
The property i own now in san jose i plan on selling in the next year. Prices are crazy high. Why so much turnover? Because real estate cycles. I have a brokers license so alot of the transaction costs are small. I feel that my money can sit in something relatively liquid and make 2-3% and over the next 5 years there will be much better opportunity to reinvest when another asset class cycles down big. I feel price appreciation in the bay area over the next 5 years will be close to flat. At best a 5% rise from current prices.
Real estate does a great job of keeping up with inflation and it’s one of the key aspects I appreciate about owning my own home. But looking at the Case-Shiller house price index, it looks like real estate doesn’t strongly outpace inflation. In contrast, it only beats it by a percent or so on average across the whole nation. Yes, some big cities have seen a lot of appreciation in the past several years but plenty of other places haven’t seen much real growth.
My own house in Raleigh NC, for example, stayed roughly flat in value from 2003 when I bought it till 2014 or so (meaning small losses in real terms) but it’s gone up double digit % since 2014. That’s more the neighborhood than the overall city due to gentrification. Real estate is such a small portion of my net worth that it doesn’t really matter whether I’m beating inflation big time or just staying even, but I wouldn’t want to rely solely on capital appreciation of real estate to bring me riches. Unless I happened to pick the right market in hindsight (like SF!).
Ah, but the right markets aren’t just SF! They are and have been:
Portland
Seattle
Austin
Colorado Springs
Denver
NYC
LA
San Diego
Laguna Beach
Newport Beach
Boston
Maybe even Miami and Vegas despite their massive busts!
And then we can go on to see what’s happened in HK, Singapore, London, Paris, etc.
It goes back to the post: Follow The Money: A Look At The Best Paying Government Jobs. Got to identify big trends to make money. Maybe Raleigh has something up its sleeve!
A lot of those places have a much higher cost of living in general too though. Your house goes up in value (which doesn’t provide you with any form of income, unless you rent out some of the rooms), but you’re also paying more on products and services while you live there. I lived in Newport Beach and the cost of restaurants vs the Inland Empire is night and day. Even stuff like gas was much higher.
I’m with Justin and if I had a million bucks, I’d be buying in a LCOL area and putting the rest in productive assets that tend to be eat inflation like stocks.
To live in Newport Beach or Boston or SF, you most likely have to leverage yourself and probably work longer to keep up with the higher expenses. That’s not a risk I’m excited about taking, but certainly many people do.
Sounds good to me. If you are happy living in the Inland Empire or lower cost of living areas, then by all means do so. What is it that you do and what are your financial goals?
No, I’m not particularly happy living in California (at least not without experiencing somewhere other than California before settling down), whether that’s Inland Empire, Orange County, or Ventura County (where I went to college), and that’s why I sold my real estate here after it increased 50% in 5 years….I don’t want to be tied down to this place. You pay a huge weather tax to live in California, and maybe that makes sense if you have a family and spent most of your time at home, I don’t know.
My immediate financial goal (six months) is to quit my job and travel indefinitely and living close to work rather than commuting in from the beach the past few years is something that enabled me to greatly speed up that timeline by plowing more into investments.
If real estate prices go back to where they were in 2010, then I’d probably buy again. If they never go down, there’s a lot of fun new places to explore. :)
This is great that you are financially independent by age 30. Can you share with us how you were able to afford your place so soon after college? And are most of your peers like you as well? I have a strong thesis that a lot of people are much wealthier than the media makes them out to be. You being able to leave work in six months is another great example. Was there any parental help at all? Thanks
I like to describe what I’m doing as taking a calculated career break and I entirely expect to re-enter the work force within the next couple of years. Unless i’m wildly successful in my freelancing attempts during my “year off”. This is expected to be a sort of gap year though.
I definitely had some help from my parents in that they paid for my college degree and let me live at home for free until I bought my own place. I also had some hook-ups in landing my first job which turned into my career so far. I’m very lucky and I don’t expect most people to share my story. I made the most out of what I was given though. I have enough to take a break for a little while. But I don’t have enough for forever.
Peers? I see a lot of people drop $100 at the bar on a typical Wednesday. Don’t know if that’s cause they have badass incomes or just like to live on credit.
My theory on your peers dropping $100 at a bar is because they can. They can afford it. People who can’t afford it won’t spend that much. We tend to always thing we are better, richer, etc than our peers. But the reality is, we are just like everyone else, and everyone else is just like us.
Check out:
A Massive Generational Wealth Transfer Is Why Everything Will Be OK
No Wonder Why Millennials Don’t Give A Damn About Money
Thanks for sharing those links. Those are definitely some interesting reads. I don’t personally plan on an inheritance when doing my own planning, but something fairly extreme (several years of assisted living, for example) would have to happen for me not to receive something. I do wonder if knowing that might have a subconscious effect even though I tell myself it doesn’t. I’m still not going to drop $100 at the bar though.
Hi Sam, thanks for the quick and detailed reply. Very appreciated and I’m learning alot on your site. I am new at investing and financial planning. I’ve been doing it just for a few years now and trying to take control of my money.
So when there was the crash in 08-09 I didn’t have any money invested. But I saw all the headlines. Started to put money into ETFs the past few years, mainly in S&P 500 and some dividend paying stuff.
It’s easy to feel good when the markets have been up these years, long term I am sure there will be big corrections.
My portfolio is much smaller, I do hope with proper saving and planning I can enjoy in 15-20 years what you have done.
If you didn’t have any money in 2008-2009 to invest, then one of the greatest things you must protect yourself against is thinking you are an investing genius. It’s very hard to know your true risk tolerance if all you’ve been doing is investing in a bull market. Definitely read: Investment Strategies For Retirement and Recommended Net Worth Allocation By Age.
You might as well read for motivation and guidance, The Average Net Worth For The Above Average Person.
After 10+ years of consistent saving/investing, you will be amazed at how much you can accumulate!
Hey Sam, when you first started this blog and the stock markets were crumbling did you end up selling your portfolio to get out and buy other holdings or did you ride the downswing until now?
Many who took a big hit in 08-09 and bailed out lost the gains in the next few years.
What time frame did it take for your portfolio to get back to even and what % of it was in stocks vs real estate then?
Perhaps do a post on going through a declining/bear market, as most people let their emotions take over and want to sell asap.
Hi Joe – I just kept my head down at work to avoid being a casualty (we went through around 6-7 rounds of layoffs in 2008 and 2009 each year), continued to max out my 401k, and only invested about 20% of my after tax after 401k money in the market.
I was honestly too worried to invest more b/c I made an ill timed vacation property purchase recently, and my career was levered into the market. Seeing many of your colleagues and friends get laid off was very disconcerting. Very.
The largest lump sum financial move I made was investing $200,000 in a 5-year CD at 4% in one bank, and $200,000 in a 5-year CD at another bank that also provided a 4% interest rate. My rational was that the FDIC insurance was $250K per account, and I would give my $200,000 a chance to grow past the $250,000 limit. And hopefully by the time it did, the world would still be left standing.
Back then, Washington Mutual got gobbled up and several other banks failed.
But the biggest financial and life move was starting Financial Samurai in July 2009. This move completely changed my life and the rest of my life for the better given this site, along w/ a severance allowed me to leave Corporate America in 2012, six years earlier than I expected (age 34 instead of age 40). I do hope everybody at least start their own website to build their brand online.
My existing portfolios got back to even before the crisis by mid-to-late 2012. How about you? How long have you been investing and where are you on your financial independence journey?
Dude, you should write a book. I just purchased my very first home at 24 in MD. I can’t lie that I have questioned my move going from renting to owninh, but i must say you made me see the light in the tunnel. Do you have a blog, Instagram, Facebook, or articles i can follow? Thanks again
Here is my entire Real Estate category to check out: https://www.financialsamurai.com/category/real-estate/
Besides writing here, I do have a FB page I just started: https://www.facebook.com/financialsamurai/
Cheers
On-point post on inflation as usual Sam. The economic “recovery” has been asset-inflation based, not based on businesses fundamentals and creation of quality jobs. The P/E ratios of stocks and the cap rates on real estate are much higher and lower respectively. If a stock is trading at double the share price, the company should be earning twice as much, which is hardly the case. Cash flowing properties used to trade at 10x net income, now it’s 20x or even 30x in NYC. A lot of this asset inflation is based on investor’s lower cost of capital. Having the Fed keep low interest rates for long periods of time due to “low inflation based on CPI” really pushes the value or real estate and stocks. (making rich people richer basically) Who knows what will happen when interest rates normalize or maybe even get to double digits like 20 – 30 years ago? (probably financial armageddon).
Owning real estate in a gateway city such as SF is a great long term investment, both fundamentally (high barrier of entry, scarcity of land available for development) and it’s on steroids with these low interest rates. I assume European countries and Japan know that having ultra low rates will at least push up asset prices, in light of having no other options for real economic growth.
Have you considered investing in multi-family? I’m of the belief that there can be more upside and less downside risk in a multi versus a single family home or condo. If you’re dependent on one tenant and that person moves you have 100 percent vacancy, compared to having no huge loss if one of your multifamily tenants moves out. The exit can be more lucrative as well, since there seems to be many buyers, both individual and institutional, who pay top dollar for multifamily because of its stability and long term upside (due to gradual rent appreciation with inlflation). This inflation and low interest holy grail environment also makes it harder for many first time homeowners to buy–they get almost no interest on risk-free cash savings, and the prices of homes/condos in major cities is very high.
I’ve considered multi-family, and I wrote about it here: What Type Of Investment Property Should I Buy? SFH, Condo, or Multi-Unit?
I kind of regretted buying a house when I could have bought a 2 or 4 unit building for more cash flow. Now, I’m SO HAPPY I did not b/c I don’t want to be a landlord to so many people. I’ve rented out my house now for two years and 3 months with no vacancy so far. I just want to deal w/ one set of tenants, one oven, one fridge, one electrical main etc.
If I was 25-35, I probably wouldn’t mind managing 1-3 more properties. But at almost 40, I have ZERO desire to add on to my landlord duties. Two rentals + a vacation property rental is enough.
I definitely want this goldilocks scenario of rising rents and decreasing interest rates to continue. I believe mortgage rates will stay low for years, if not another decade or two, while rents will just march higher little by little.
To NY investor -your comment “I’m of the belief that there can be more upside and less downside risk in a multi versus a single family home or condo” – just a few things to consider… We own a single family rental, duplex and multi-family (two 4 unit buildings). We’ve had the same tenant in the single family for 21 years – that’s zero vacancy in 252 months. We’ve had the same two tenants in the duplex for 4 years too, but we have 3 new tenants moving into the multi-plex this month.
You can still have big losses in multi-family units. We had a tenant move out (well, we ended his lease) – and it cost us over $5,000 to do basic repairs in an 850 sf apartment and it took 2 months to do it. Yes we were still getting rent from the other 7 units, but we haven’t spent $5000 on our SFH in the last 10 years. The SFH and duplex are as passive as real estate can get at this point (since we manage them ourselves) and we consider them not to be a risk at all. There are many people who want to rent SF homes in our area. And the folks in the duplex asked for a 3 year extension recently. 7 of our 8 multi-unit apartments have turned over in the 4 years we have owned them (a few have turned over each year). Raising the rents doesn’t always cover the costs of general maintenance and the wear and tear of tenants coming and going so often (carpets, etc.).
Lots of things to consider – and Sam is definitely right about managing more tenants and the work involved. We chose that work for this time in our lives but we’ll be handing it off to others (partially) in the next year too.
Hi Vicki,
Thanks for the insightful reply. I guess every market is unique and although I’m by no means an expert on the SF market, I do know that it’s been a very strong market for a long time. Almost everyone I know who’s been there raves about the perfect weather and lifestyle over there. The demand coupled with the outrageous price of single family homes and high paying jobs creates a situation where i could see many people being happy to rent a single family home for a long time. In that respect, owning a single family as an investment makes a lot of sense. We all go by personal experience as well-I’ve known several people making the transition to downsizing to smaller residences where they tried to keep their first home and had a very difficult time finding renters (here in the NYC area suburbs) and deciding to just sell.
I own some smaller multifamily and do agree that it’s definitely not a hands-off, hassle-free investment. I do have turnover, but a able to market the vacant units and get new renters in pretty quickly (worst case, 1 or 2 months vacancy for me). Especially with the older buildings, there’s a lot of maintenance involved and that could eat into cash flow, and you need a large enough rent roll to hire a property manager to do some of the work in order to have a life.
I think the price we buy in at, and the amount of leverage used is also key. If one were to put down a standard 25 to 30 percent, the rent would have to cover the mortgage with some cash flow left over. I think that the high prices of all kinds of income producing RE in both SF and NYC would require a heft down payment in excess of 30% nowadays in order to make sure you break even in the even of a downturn or large sudden vacancies. In this scenario, a multifamily to me, would be a safer bet since the probability of zero percent vacancy is unlikely compared to a single family home.
“Despite inflation, interest rates keep coming down. This is the goldilocks scenario for all real estate investors who get to take advantage of record low mortgage rates while also raising rents.”
His response, “No. Rates keeps coming down because inflation is nowhere to be seen. Rest assured if inflation ever revives, rates will rise too.”
Hey Sam,
I think one point that you somewhat miss is that sure mortgage rates are going down to very cheap levels but if a person makes 100k and can afford ~30% for housing they will now be able to afford a larger monthly payment on their house (in terms of what goes to principle since lower mortgage rates mean a smaller portion goes to interest payments). This has driven up the prices of houses because you can now afford more house with the same dollars (kind of – though theoretically all houses should move up so perhaps it’s a non factor). So now house prices have gone up (government wins here because they can charge you more in property taxes!) but what happens when interest rates eventually go up (if they ever even can – and it may be a while but it will happen eventually).
My take is the market is screwed up. As rates rise all of the people who locked in at low rates are set. Everyone else will now have to pay more in mortgage interest payments and this will mean less in principle… so I foresee some amount of deflation in housing from this effect. Personally, I love real estate and agree with most you said above and I’ll continue to keep buying apartment complex’s even with these “inflated” values that I think we have. As long as the ROI is there what do I care? Plus when deflation comes I can then get my properties reappraised and pay lower property taxes (again increasing my ROI). That doesn’t even include the trends all pointing towards rents going up at insane rates (as you referenced). I like to follow supply and demand and basic trends too. Millennials are renters primarily (I’m one and that’s what all the friends do), they don’t mind spending a lot on their place (hurting savings rates for down payments long term). This means I am a price setter and they will have to be a price taker due to limited means of a 20% down payment on properties they are accustomed to living in from high rents while they lived it up!
So recap, buy all you can now if the ROI is there and you foresee stability. If you are buying and holding price doesn’t matter as much (though still try to get the best prices – but I mean you don’t need to wait 5 years to time the market – get that ROI now!). Right now my complex is paid off with returns just under 20%. My parents have mortgages on their complex and are making 50%+. So timing the market is a moot point when you can make your money back in under 2 years… And other points be prepared to for some eventual deflation! And BUY BUY BUY!
Common denominator of all 1%ers is they all have equity. Get equity in property, stocks, etc. Just do your research to make good, educated, risk calculated decisions for the ROI you’re eyeing. Looking forward to seeing you all in the 1% (except no one will know because of good old stealth wealth ;) ). Cheers!
As always good read Sam.
Price setter… I prefer the term, Price Dictator! More powerful! You know, like saying, “Here’s the price. Take it and like it.” But maybe that’s just the writer in me.
I’m not following your analysis of my interaction with the reader in the post. But that’s cool.
Well done paying off your Complex as a Millennial! How did you start, where do you live, and how did you do so so quickly? What created your mindset to be a Price Dictator versus a Price Taker as all your friends are?
I like your thinking there! Price Dictator surely is more powerful haha!
I’m just trying to say: cheap interest rates drives the price of the asset (property in this case up). So when interest rates do go up you’ll see the property values go down because people won’t be able to afford more. They will stay make ~ the same money but now more money will have to go for interest and less for principle payments. This will translate to less buying power on new properties. However, if all properties go down you’ll still probably be able to afford the exact same house you could previously afford just more money goes to interest and less to principle but your mortgage value would be less.
I started saving in HS, undergrad, and grad school and wrote the check to buy it outright. I live in New Mexico. I work in engineering and make a solid 6 figure compensation package in my early 20s.
I see the economy and see how rents are going up. The trends show millennials aren’t purchasing houses and are renters. If they are renters and rents continue to go up, it would be foolish for me to not take their money! Why should someone I don’t know profit off of them when I’m just as capable of profiting myself :D?
Great opening line. I feel inflation all the time. It’s funny one of the things in your list is $25 t-shirts. That’s one of the reasons I hate buying clothes lol. Here’s to riding inflation and beating its ass!
Heavily regulated and subsidized industries have the greatest price increases and TVs cost less than ever?
It seems like there might be a lesson in there somewhere…
Sam,
Like your post. I am wondering if you can think of a way to invest in the average rent – so if the average rent increases 5%, so should my investment. I cannot think of any way unless CME starts a futures contract on that.
Separately, how do you think of investing in tuition? There are 529 plans that allow people to prepay tuition. Do you have thoughts on these as investment vehicles?
I’m sure there is a structured product out there, but I don’t know it. You can invest in tuition by investing in publicly traded for profit evil schools like Phoenix Online.
And you can invest in rising rents through physical rental property, real estate crowdsourcing, or REITs. The key is to have some exposure to inflating assets. Whatever exactly you choose is based on your risk tolerance and comfort level.
Datapoint – was in a 2/2 apartment in walnut creek(40 mins from SF) – in 1999 my rent was going to 1700 a month.
Now in a 2/2 apartment in walnut creek – rent 2190.
Keep hearing how hot rents are in the area but I’m not overawed by that increase.
For the intervening years – 1999 to mid 2016 i owned a townhouse also in walnut creek. Purchased for under 270k sold for about 610k. Think that beats the s&p 500 by a touch but I feel there’s a lot more risk in a particular house than the s&p. And given expenses and upgrades I’m pretty sure I’d have done better in the s&p 500.
Renting from now on for me.
Pretty cheap for a 2/2 in WC! Although it is kinda far away from SF, it’s not bad via BART. So that’s the thing. People who are complaining that the SF Bay Area is too expensive aren’t looking hard enough. Why not commute 45 min by BART to rent a 2/2 and save $1,200+/month in rent if that place really exists? We don’t all have to live walking distance to work, nor do we deserve to.
Everything is relative. If you bought something in SF in 1999, it might have been a triple, not a double.
All very true – but the fact that it might have been a triple is in the past. For me that makes it less likely in the future not more. Same with stocks or bonds I buy them when they’re down and unloved, not after they triple. Lately I’m much more interested in European equities than US.
I’m in the same position as you though with the house proceeds, yields are in the dumps. Enjoy your website and hoping you find some good deals and share them.
I greatly enjoyed the realty shares discussion but for that kind of money I’m much more interested in small slices of big reits than office buildings in PA. Made for good reading though.
Thanks!
Sam,
I have great respect for your work and success with Financial Samurai, but I feel you’ve missed the mark here.
To state that the government “manufactures” inflation data that does not reflect its actual measurements of price increases is not only inaccurate but also irresponsible.
It may be fair to take issue with the particulars of the CPI and other inflation measures’ inputs, assumptions and statistical adjustments. There is room for disagreement there, and the CPI formula is in fact periodically revised, reflecting that. You may also reasonably argue that the CPI basket of goods does not reflect your personal consumption pattern or experience. This is natural and to be expected.
But to baselessly claim that the U.S. government maliciously manipulates its data to deceive people into being economically docile is beneath the quality of this blog’s normal standards. And it is beneath the standards expected by reasonable and informed readers.
It reflects the sort of can’t-prove-the-negative conspiracy theorizing that pollutes the thinking and opinions of those without the care or tools to recognize how hollow the theorizing is. I think you may wish to rethink your position on this issue.
I won’t address all the other concerns I have with this article, but there are quite a few, many of which relate to what I believe is an inaccurate treatment of the nexus between inflation and the regular workings of the economy.
For instance, you state: “Imagine if the government reported the true inflation rate of say 6% per annum. Producers would raise prices more aggressively. Input costs for everything would go up.”
But this statement has it all backwards.
The CPI reflects observed price changes in the economy; reported changes in the CPI are not used by businesses to change their prices; businesses change prices in response to the profit-maximization problem they face; were businesses able to increase price and enjoy higher profits, they would do so regardless of the CPI statistics (and they would balk at raising prices if doing so meant lower profits, regardless of the CPI). It does not follow that a CPI report showing 6% price increases would cause producers to raise prices 6%. It would instead simply indicate that producers already had raised prices, in the aggregate, by 6%.
Again, Sam, I respect your work. It’s only because of that respect I’m bothering to respond to this. There are plenty of places on the internet where poorly considered financial discussion can be found. Financial Samurai is not one of them, and I offer these thoughts in the spirit of keeping it that way.
Your bro,
FL
No problem! I love dissent. Dissent makes things much more interesting and fun.
Maybe you can help address the paradox that I write about regarding rising inflation yet declining interest rates?
I love how you use the words “maliciously manipulates,” it definitely takes it up a notch from what I wrote.
How would you describe why CPI is so much lower than practically everything we care about spending money on?
Also, are you affiliated in any way with the government or with producing such data?
As a landlord, I am totally fine if the masses think that inflation is really only running at 1 to 2% a year. It makes raising rents much easier for me. But I really want to illustrate to those people who think that shorting inflation by hating on real estate or stocks or anything is not going to be optimal long term.
I have spent a significant amount of time with senior government officials and senior monetary officials from various countries regarding inflation and economic policy. We’ve seen a lot of investors, we’ve had a lot of dinners, and we’ve had even more late-night heavy drinking sessions. People will be amazed at how they think and what is really going on behind the scenes.
Thanks, Sam. I wouldn’t call it “dissent,” which implies your view is the mainstream perspective. I think that is not the case.
To get to your questions: First, I have no affiliation with the government. But I have previously consulted with government entities, who were clients. Those engagements are no longer ongoing, and this discussion relates in no way to any of those projects.
Second, there is no paradox. At its most basic, the price level can be thought of as that which “clears” the market for real goods (i.e., where aggregate demand and aggregate supply intersect for goods and services). This is measured, generally, in indices like CPI.
The “risk-free” interest rate, however, “clears” the financial market, where demand and supply for government securities interact. Other interest rates tend to follow this market’s lead on the basis of differential risk profiles, duration, etc.
As a corollary, what happens in the market for real goods in terms of market-clearing price does not relate directly to what happens in the market for financials. And vice versa.
If aggregate demand for goods and services expands quickly relative to the increase in aggregate supply, one would anticipate high levels of price increase (i.e., high inflation). But this does not relate to what happens in financial markets directly, where interest rates are determined on the relative demand and supply of investment. In this market, there could be a simultaneous decline in aggregate demand for investment relative to aggregate supply of investment, thus driving market-clearing interest rates lower.
So, again, there simply is no paradox. Price level changes can (and do) move independently of interest rate changes. This phenomenon is one reason the Fed seems sort of stuck right now.
Sam, I think you’re taking a simple concept and making it seem very complex. And as a result I think you’re missing the boat, notwithstanding your claims to be in on the big secret talked about only at late-night heavy drinking sessions. Perhaps, Sam, your drinking was too heavy.
I definitely think you are right and that I am often confused and wrong. Your comments do give me some comfort that there is no mystery or paradox. That everybody is logical and realizes the power of inflation and the power of owning and investing in real assets.
This is good news for all of us who invest. Hopefully the mass media can do a better job in focusing on the positives and how everybody is doing well thanks to a bull market, rather than so poorly for whatever reason. Overtime, I’ve slowly stopped worrying about other people’s financial well-being because of comments like yours.
I really think it is great that you are a strong believer in the government and the government figures. We need more people to believe in the government as it continues to become a bigger part of our lives.
How long have you owned your property and what do you own? Can you share with us your mortgage interest-rate refinance history and the rent that your property rented out for in the past today and? Where are you located? We had some pretty good data points from other commenters about their property statistics from various regions so far.
Hi FL,
I work for the government in a department responsible for crunching the numbers. There’s truth to what Sam says. We want low inflation and low unemployment. We subjectively decide the weightings of CPI and other data to report “the best” data possible for the public to digest. I’ve often questioned our own data myself because it often jives very differently with reality.
The government appreciates you believing all our numbers and taking what we say as absolute truths. However, the truth of the matter is that we are doing our best to gather as much data as possible to analyze and there are a lot of flaws. We do not want people thinking for themselves and looking under the covers.
If more of the population were like you and listened to everything we had to say, it would make our jobs in controlling the public much easier.
Carry on.
Sam & Insidie,
Thanks for your thoughts. I’ll agree to disagree here on several fronts.
Insidie, I agree with the faults in various government statistics; however, it’s the idea that those statistics are being actively manipulated with a particular end in mind that I believe is incorrect.
Sam, I’ll ignore the sarcasm. If you’d like, we can talk about it over a beer sometime. Your treat.
This is less about belief in what the government says than it is in reasoned logic and a fair reading of economic history.
Thanks for sharing these different views.
FL, for the sake of adding value to the post and discussion given I’ve already agreed that you are right, can you provide some data points on where you live?
How long have you owned your property and what do you own? Can you share with us your mortgage interest-rate refinance history and the rent that your property rented out for in the past today and? Where are you located?
Thanks!