Sunday, June 7, 2015

Real Estate Appreciation

     I've been told since college that real estate has the unique quality above all other assets of holding value.  It's tough to lose money owning land and it's tough to lose equity in a long term hold strategy.  I was told that certain areas of my home town, San Antonio, appreciate at a rate of 10% a year.  I'd like to address this misguided belief in increasing values.
     If you believe that your home will go up in value 10% every year for the foreseeable future, what you're effectively saying is that the house you bought for $100,000 today will be worth $1,750,000 by the time you pay off your 30 year note.  I remember the house my parents bought, and the one their parents bought.  Maybe Texas is a little different than the coastal markets but I can't see that be an accurate expectation.
     A 10% increase in value of real property is what most economists would constitute as an adjustment.  It's not appreciation, it's just that the guy who appraised the area the first time got it wrong and the demand was a lot higher than expected.  It doesn't mean that demand will rise at a constant rate, or that supply will continue to be in a shortage.  If that's the case you're looking at real estate in the eyes of the last bubble that happened thinking of all the great things that followed.
     Realistically, the value of real estate can only increase under a certain set of circumstances.  Demand increases - what does that mean?  Do you live inside of downtown Dallas in a single family home?  Are there 50 story buildings going up on both sides of you?  If so, your property value probably went up.  Is there no available vacant lots around you and people are swarming to this part of the city by the horde and are you located close to downtown?  If not, it's probably just an adjustment.
    Banking your investment on appreciation is a mistake.  A Good benchmark for any investor should be the rate of inflation.  If you're property is appreciating faster than the rate of inflation, you're in a bubble or there's a market adjustment happening.
    Word to the wise - Sell when you see these trends.  Buy when you see them in reverse.  Here's a fun fact about finance:  The value of gold to bread hasn't gone up significantly since the beginning of recorded history until innovations such as the industrial revolution.  When the price of gold goes up, it's not really gold getting more valuable so much as the dollar getting less valuable.  Be weary of hefty appreciation models.