The Rate of Return on Everything, 1870–2015 [pdf]
frbsf.org
frbsf.org
Wouldn't this have a huge effect on real estate -- indeed, isn't that population graph the primary driver of what happens in the real estate market?
I'm not sure the last century provides a meaningful guide here.
Today, those prices are much higher than they were in 2007.
Land supply is an almost straight line with a slight growth, probably something on the order of y = 1.2x, mostly due to innovations in transport speed, cars & metro. So unless we get maglev metro that travels at 200mph, RE prices will continue to reach new highs.
but there are certain areas that can't go much higher and sooner or later each area will reach a price point where prices can't go any higher. Ultimately, it just depends on how much people can afford to pay: which comes down to salaries, commute distance and # of wage earning people per roof. Sooner or later all the coping mechanisms will be exhausted.
The bottom line is, RE prices can't outpace salaries forever. If you double the number of wage earners per roof, you can double the RE price. But, after that it becomes harder and harder, as people aren't willing to live with multiple families per house.
Hypothesis is many people live close to the cities because they hate commuting. But if commuting means work on a laptop or watch a movie, then the commute time is less significant. It's the near ring suburbs that will take the biggest hit. Small towns outside the suburbs will increase.
I predict that most people would not elect to live 2 hours away from offices despite being able to have access to entertainment and work while commuting.
The evidence is already here: various tech companies run shuttles to far-flung areas (Google has shuttle service from Stockton to Mountain View), yet employees aren’t moving to these lower-cost areas in large numbers.
Workers with families will have upper bounds to how long a commute they’ll endure. Their families are more important to them than being able to have entertainment, and meeting times limit the amount of time that can be used for work done while commuting. At that point, it’s approaching remote work, which is a promising idea, but isn’t a solution for long commutes by itself.
I see self-driving cars changing last-mile and replacing hub-and-spoke commutes as a replacement to taxi services and short-distance shuttles.
I think maybe in the short term, but in the long term I can imagine self driving traffic moving much faster than regular traffic. Cars all accelerating at the same time at lights, Uber pool in vans becoming super cheap. Roads could dynamically add and remove lanes in a direction without needing infrastructure, since all the cars will just "know" which lanes are available. Personal cars (hopefully rarer) can drive themselves home rather than take up parking space in cities.
Taken to its logical extreme: If people could teleport from one place to another instantly, there'd be almost no value at all to congested urban spaces. Similarly, if anyone can hail an affordable driverless Uber in seconds and reach their destination faster (due to improved routing / traffic flow and smaller cars) without having to think about parking, a bus schedule, or similar, the value in being physically close to other places decreases.
In that scenario, having your office out in the suburbs at a much lower cost becomes more reasonable. Transportation becoming more frictionless inherently makes longer distances more conceivable for travel (including commutes and office placement).
So, like if we start being able to do our jobs in VR?
I think self-flying electric vehicles will do what self-driving cars cannot.
I've been taking an express bus into the city center from a rural location for a few years now. The time on the bus is between 35-50 minutes each way. Initially, I figured the same thing: I could get an extra hour of work done, work on side projects, etc.
The reality is that although the buses have WiFi, there are not many people working on them beyond the occasional email check. One major issue I found is that it's a lot harder to use a keyboard on something that's travelling on a road surface vs. a railroad. I even joked with someone about this last month as he was sitting next to me trying to write Javascript.
Most people on the bus are either playing video games or listening to music and I suspect that being that the people in this area are older and have families to get home to, having a more pleasant commute isn't remotely as important as having a shorter one would be.
Certainly some people live in city centers out of necessity. But the super-wealthy could live anywhere they want. They choose Nob Hill and SoHo (and so on). And they will continue to do so. Transportation options have very little to do with it.
Better transportation options for everyone else will be great! But the U.S. is an enormous place, so it's really only the city centers that should continue to see price pressures (because there's plenty of room everywhere else and better transportation options improve that situation).
In San Francisco, I suspect it’s mostly jobs, not love for the city, that is causing growth and fueling housing price increases.
I and everyone around me live in urban centers because of the community and environment around your residence.
kids can just go out the font door and play. you get inspired by life and commerce by just looking out the window. etc
assuming you will drive and real state prices only impact how long is very californian.
The 15 minute walk/subway combo I have does solve that
The first apartment I rented in midtown Manhattan was a 1BR condo in a fairly new building. The owner had bought it in 2006 for about $775k. In 2010, I looked it up on Zillow to see if I could afford to buy the place (I could not), and it was around $850k. Within a couple years of the crash, it had not only recovered, but appreciated a fair bit.
He sold it in 2014 for $1.2M, and according to Zillow it's now worth nearly $1.5M.
The biggest expense that the average person pays for is rent and home mortgages.
The world be auch better place if a >1/3 of everyone's paycheck wasn't going to rich landlords.
Housing costs are the biggest transfer of wealth in the world, and the higher costs are, the less money there is in the average person's pocket.
> 1. In terms of total returns, residential real estate and equities have shown very similar and high real total gains, on average about 7% per year. ... The observation that housing returns are similar to equity returns, yet considerably less volatile, is puzzling.
> 2. We find that the real safe asset return has been very volatile over the long-run, more so than one might expect, and oftentimes even more volatile than real risky returns.
> 3. ...our data uncover substantial swings in the risk premium at lower frequencies that sometimes endured for decades, and which far exceed the amplitudes of business-cycle swings.
> 4. Comparing returns to growth, or “r minus g” in Piketty’s notation, we uncover a striking finding. Even calculated from more granular asset price returns data, the same fact reported in Piketty (2014) holds true for more countries and more years, and more dramatically: namely “r >> g.” ...globally, and across most countries, the weighted rate of return on capital was twice as high as the growth rate in the past 150 years.
> In terms of total returns, residential real estate and equities have shown very similar and high real total gains, on average about 7% per year.
> The data summary in Table 3 and Figure 2 show that residential real estate, not equity, has been the best long-run investment over the course of modern history.
> Although returns on housing and equities are similar, the volatility of housing returns is substantially lower, as Table 3 shows. Returns on the two asset classes are in the same ballpark— around 7%—but the standard deviation of housing returns is substantially smaller than that of equities (10% for housing versus 22% for equities).
> Predictably, with thinner tails, the compounded return (using the geometric average) is vastly better for housing than for equities—6.6% for housing versus 4.6% for equities. This finding appears to contradict one of the basic assumptions of modern valuation models: higher risks should come with higher rewards.
Seems the way the real estate market works has caused a big drain both on economic growth (as investments have gone into real estate rather than more productive products), and on economic equality.
So a Georgist land value tax does seem like a pretty good idea.
It's the same with college costs: every additional dollar of federally subsidized loans made available to the public adds a dollar to the cost of college, almost necessarily so.
Returns vs Cost of buying a house.
The point is that the government subsidies make the profits on buying real estate high, which leads to high prices.
So both are true: "high cost of buying a house" "high returns on real estate"
Obviously they can't be true forever, the upper limit I guess is the ability of the lower classes to rebel divided by their tolerance of being priced out of their own land.
All economics and human societies, really, are bubbles. Very, very long-lived bubbles. Obviously growth on Earth is ultimately limited, so yeah, these very long-lived bubbles cannot go on forever. The real trick is to predict when any one bubble will burst!
The short-term effect of a subsidy is a reduced cost to the consumer.
If subsidies are generally and persistently available, this reduced perceived cost increases demand, causing increased prices. The ratio of price increase to amount of subsidy (and thus whether the consumer or producer benefits from the subsidy) will depend breadth of the subsidy and on elasticity curves of supply and demand.
Then there's the increased demand because the subsidy increases ROI. further increasing prices of the fixed input (land/existing housing) to the good (living space).
Mind you, because these subsidies are never really temporary, I suspect the immediate effect on prices is always to raise them. And perhaps even temporary subsidies cause price rises just by increasing demand, though the price rises might only be temporary.
Edit: The actual paper breaks down the data between all data and post-1950. The advantages of housing appear actually greater pre-1950, before those policies.
But it's the individual homeowner that's juiced. Lmfao.
Having owned 7 small businesses in part or in whole, you get away with a hell of a lot if you try. Having been an auditor, companies do so many illegal things they get away with, the ethical isn't even in the same category.
In economically vibrant cities real estate hyperinflation has soaked up all the gains and locked them up in non-productive assets, serving to enrich only banks and rentiers at the expense of individuals and more productive entrepreneurial activity. I've been whining about this for over a decade.
Productive means the money causes things to actually happen like new product development, entrepreneurship, research, health care, etc., vs. just sitting in a bank. Productive also means it benefits people doing real things vs. just collecting rent and sitting around.
Look at Silicon Valley and imagine how much more angel capital there might be if real estate were not so inflated. When someone buys a $1.5M starter home, that's $1M not available for other investments.
Why do you feel the money disappears? From my perspective, the $1.5M is now in the hands of the seller, who is equally free to invest in other investments.
* they are idiots, because that is a poor use of their resources, and
* the bank is sending it out, so it is economically productive anyway.
There is a reason why hedge funds are slowly gaining cash positions lately.
Even if the bank is just 'sending it out' to someone that is using it for property speculation?
Sorry.
This is the fundamental mechanism of why wealth inequality is bad for everyone. It slows the economy down if you are moving money from consumption into investment and never seeing it come back out (and income trends in the last 30 years / average wealth / income mean vs median all demonstrate that wealth goes to the top and stays there). Loaning that money back out just deflates the wealth of the poor even more, which increases debt, lowers net wealth, and the general availability of credit for small business creation is pretty damn low compared to decades ago, and the success rate of new businesses is awful. This means the money never goes back down the ladder - it gets swallowed up into money markets that move money around to make money while all the profits are just the productivity of the working class siphoned off.
So when working class people are giving larger and larger portions of their income back to the bankers that loaned them the money to buy a house from a real estate baron, that money is dramatically less stimulative going into the bankers investment accounts (be they stocks or <rarely> further loans) than if it were being put into raw consumption by the homeowner.
On the other hand, real estate development, turning a barren lot into apartments with amenities, or single family homes, would seem to be productive and helpful, both are investments.
The same is true for investment accounts, secondary market trades in stocks and the like would match your analysis, but not so for IPOs, which presumably is being used for productive things by the company.
What will not happen is affordable housing for the majority of the population.
Simplistic monetary analyses are incredibly bad at estimating social value, and even worse at maximising the returns from network effects that become possible when you allow for the benefits of wider wealth distribution.
The "logic" of that argument betrays some interesting biases.
Of course if you privilege an asset class it will appreciate in value. This has nothing to do with conventional mechanisms of supply and demand, and everything to do with systemic political bias that rewards the ownership of certain privileged asset classes, while forcing the rest of the population to pay economic tribute to those who own those assets.
Value increases of assets have never been considered inflation.
The stuff you are upset about is just the downside of increased productivity and consolidation. The only reason you have the wacky real estate costs in certain places is that the money people have concentrated in a few places. Their convenience is more meaningful than the inflated salaries required to support housing that’s 10x the national average.
People have a fundamental drive to improve their home to enhance its value but also be more pleasant and suited to their wants and desires. That drives everything from home improvements to furniture to art.
This ideal of a higher density residential society with lots of landlords that is popular on HN right now is a terrible future. Landlords want one thing — maximum return on assets. That means high cost, minimum possible opex.
Because of the developer incentives, there is no incentive to build old neighborhoods like mine. 5-6 story sticks on bricks crappy apartments, or McMansions on cul de sacs rule the day.
When I looked at building a home, you can see why. It’s very difficult to build a 1700-2500 ft^2 home unless you go prefabricated, have cash, or can do the finish work yourself. The financing only works for real big or real small.
How is that different from what homeowners want? Don't homeowners already block legislation that would allow higher density units to be built because it would decrease the value of their homes?
At least in the Seattle area where there are many high rise apartments and a lot of competition, companies seem to have to invest in making their apartments nice.
Care to elaborate? Why would that be the case?
Also, most new development in my area is getting partial 10 year tax abatements. So the owners get to undercut the rents, which drives more of the traditional 2-4 family houses to lower rents and less maintenance, and eventually to section-8, which is the price floor.
So I get to pay more property tax, I get to pay for tax abatements via sales taxes, and we get to enjoy more traffic and a decline in the maintenance of legacy housing stock.
End of the day, only bigger players have access to capital without that federal subsidy.
The Wikipedia entry on the subject: https://en.wikipedia.org/wiki/Land_value_tax
Whether the ratio is now unusual, or how large it will get, is a subject of intense speculation with many real-world consequences for society, and especially to what extent law and government policies are responsible for it or can mitigate it (e.g. capital gains tax vs income tax).
Secondly, they don’t differentiate between married and unmarried. Two married 55 year olds with $300k each in 401ks are in better shape than individuals. As is someone with zero saved married to someone with $1M saved.
Also, they don’t include pensions and other defined benefit plans. That’s s substantial difference. If you are a school teacher two years away from getting $50k a year at retirement, you might not feel sane urgency to save.
and most importantly it ignores home equity. Paying off your home creates huge savings. I have a friend who paid off his $800k home by age 50, he would have answered that he has near zero retirement savings. He retired at 60 and built a million dollar home, no mortgage. Lots of people pay off homes by early retirement.
Finally, social security iften undercuts both the perceived need for big savings, and the means to do so. I’m paying in $9,000 per year right now, if i wasn’t i’d certainly contribute more to my 401k.
I don't think the ratio can grow arbitrarily large, but I do think it can stretch the limits of reason for far longer that anyone thinks is possible before snapping.
The amount of the ratio below unity is the extent to which the ownership class captures gains from economic growth. The amount above unity is the extent to which the ownership class takes wealth from those with less wealth. That can theoretically rise as high as is necessary to make one person owner of the entire planet in one year. After that, the ratio drops back to unity, but by then no one cares to measure anything anymore.
If stocks rise 1.2 times growth, that means in aggregate, corporations captured 0.2 more value than was newly created that year, which means it had to be taken from existing wealth held by someone else. Some of that value might come from stockholders, and thus it would be recycled back to them, but the rest of it comes from non-stockholders, who lose it permanently.
Edit to add: Total return = capital gain + yield
* Risk is defined by relatively short term visible price fluctuations, with "unusual" events removed from the model as "uncertainty".
* The risk model seems to use a Gaussian distribution, which doesn't fit the data particularly well.
In the paper, do they attempt to take into account the costs of real estate investment over holding stocks when calculating total returns? Things like property taxes, maintenance, stamp duties, realtor fees, legal costs dealing with problem tenants, etc.? If not I wonder if those explain some of the mystery around real estate returns relative to stocks?
For institutional investors, this is easily amortized but individual retail investors should invest in REITs to avoid over-concentration in a single property.
This appears to be an abstract, based on title: https://www.nber.org/papers/w24112
This paper answers fundamental questions that have preoccupied modern economic thought since the 18th century. What is the aggregate real rate of return in the economy? Is it higher than the growth rate of the economy and, if so, by how much? Is there a tendency for returns to fall in the long-run? Which particular assets have the highest long-run returns? We answer these questions on the basis of a new and comprehensive dataset for all major asset classes, including—for the first time—total returns to the largest, but oft ignored, component of household wealth, housing. The annual data on total returns for equity, housing, bonds, and bills cover 16 advanced economies from 1870 to 2015, and our new evidence reveals many new insights and puzzles.
But on the other end the assets are visible; we can count that there are X trillion dollars in bonds and Y trillion dollars in housing. We just can't work out who owns them because the trail goes dead in blind trusts in tax havens somewhere.
(There's a good paper on this that I can't find right now)
Unlike gross output, GDP only includes final outputs. All B2B activity is excluded by GDP, but capital is still involved. I wonder how things look if you look at gross output instead.
So many years of managerial incompetence and greed and market forces have completely eroded their dominance. I say eroded because they're not completely gone yet, and it's taken so long for them to glide down to this point.
It's just fascinating that company so large because reduced to so little over such a long span of time.
archive.org has a mirror copy of this document,
https://web.archive.org/web/20180105120132/https://www.frbsf...
Nothing does better than the prime rate? You mean in terms of interest rate? Isn't the definition of the prime rate the best you can get?
In the long term? What does that even mean here? Can I get lucky and do better than the prime rate, whose definition is the best interest rate you can get?
Saying this knowledge is basic Mathematical Finance is also very condescending. I haven't taken "that course" but I feel from your tone that you took a 101 college course which now guides your entire mode of economic thinking.
Elaborate on your statements.
Using a binomial model (essentially a random walk) and using 'the formulas' for portfolio calculation, you will find that in the 'long term' (in math, infinite, but 'a long time' in the real world') you will find that no investment portfolio will beat the Prime Rate, as this is what all returns are based off of.
It was just the results I saw from the course. I know one can get 'lucky' and beat the Rate, but overall, as a zero sum game, someone else has to lose and overall the group rate of return is calculated as...the Prime Rate.
Sorry for being condescending sounding; I thought this was common knowledege given it's taught in introductory finance.
Admittedly, we can always just say "we're not in the long run," I'm not sure how useful that is.
I'm not certain what model exactly you're talking about, but I think it also probably misses technological change as a real source of growth independent of any monetary musings.
An Efficient Market Theorist sees a $100 lying on the ground, and passes it by saying "If that existed, someone else would have picked it up by now!".
Milton Friedman, in the apocryphal story. And back in my days it was $20 :-)
I've seen data showing the overall stock market returns 3% after taxes and inflation for any period longer than about 20 years.
I don't agree that someone else has to lose in order to gain. That assumes zero growth, which is not the case.
I think people don't know what you're talking about because you seem to just be repeating stuff you heard in a lecture hall 10 years ago when the world is vastly more complicated.
Judging from your mentioning MC and binomial walks, you might be looking at derivative pricing, and be confused by the facts that
- derivatives are zero-net-supply securities, thus they returns are necessarily zero-sum (minus the exchange/bank's cut)
- derivatives can be priced using the risk neutral measure (after a change of measure, Girsanov's theorem, yada yada yada) in which mu, the drift of all risky assets, equals r, the risk-free rate. However, that's not statement about how mu is in the real world, but basically an abbreviation for an arbitrage-by-replication argument.
At any rate, derivatives pricing is the domain of arbitrage pricing models, while here we are looking at equilibrium models (which consider investors' preferences/utility, unlike arb models).
It was quite a dissapointing result when I learned it.
Anyway models of low risk investments will underestimate long term crashes /Black swan.
Also, are you comparing other assets directly or somehow including combinations of them? Can you point me to a specific theorem you seem to be referring to?
I wish i could find the actual theorem, but it's been a few years since I took the course and have long lost the textbook[1]. It was pretty clear though when it was taught, or at least that's what I gleaned out of that lesson without the teacher having to say it.
[1] https://en.wikipedia.org/wiki/Capital_asset_pricing_model
The risk free rate of return is reduced because people want to leverage short term cash flows. A 99% chance of gaining 5% is not necessarily worth a 1% chance of losing 5%. EX: Collage tuition is paid before teachers salary's are paid, so collages want somewhere to stuff money for a weeks, but losing money is vastly worse than some minor gains.
If you model the stock market by say buying evenly from all stocks and selling in 50 years repeat. Then some outliers like dell at IPO going up 500x more than makes up for losses. But, you can still lose a lot of money over say 5 or even 20 years and people can't necessarily wait 50 years.
E(R_m)-R_f is sometimes known as the market premium (the difference between the expected market rate of return and the risk-free rate of return).
Individuals can, but overall, the net gains by all players is the risk free rate.
I’ll give you a hint that may open your eyes. Volatility is not risk.
unless we are talking about two different things (what is the best thing to invest in to get the most returns over the long run), either you missed interpreted what the course was trying to teach you or its just factually wrong.
I took historic data from 1950 till now and matched it with the prime rate. I even gave you the benefit of the doubt by taking the max prime rate of the given year.
even if you invested at the peak of the dotcom bubble in 1999, you would have done better (100$=>255$ vs 246$)
* for optimal portfolios: more risk -> more return
* however, idiosyncratic risk of a security doesn't matter (as it can be diversified away)
* what matters is systemic risk, ie correlation with the market return (or state of the economy): something that is negatively correlated (ie protects you by returning higher returns in a bad economy) is worth more, thus has lower returns