The U.S. stock market has outperformed the residential housing market for more than 70 years. Robert Shiller, a prominent economist who specializes in residential housing, believes that stocks will continue to do so in the future. However, this doesn't quite answer the question, "Do I invest in housing or stocks?" because there are non-economic considerations when buying a house. How important these are to you may determine your choice.
Housing Returns vs. Stocks
The Case-Shiller Residential Price Index (CSRPI) is the definitive source for U.S. residential housing, with data going back to 1890. A 2012 comparison of that index and the S&P 500 shows that in every time period surveyed, stocks have outperformed housing. The difference between the two return rates is substantial. Shiller's data shows that in every period since 1890, housing has returned under 1 percent per year. Overall, in 123 years it returned only 0.18 percent annually. Over the same period and accounting for inflation, the S&P returned 6.03 percent annually.
Other Housing Costs
Housing maintenance costs reduce net returns by an estimated 1.5 to 4 percent annually. Nationwide, annual real estate taxes run about 1.3 percent of current property value. In 2012, insurance added slightly over 0.3 percent more. Since the average return on housing is 0.18 percent, the net return, accounting for maintenance, taxes and insurance and using the low end of the maintenance range, amounts to around -2.9 percent annually. This does not account for variables like operational costs, special assessments, legal costs and interest costs (which, for loans initiated in mid-2013, ranged from 4.1 to 4.4 percent on the unpaid principal balance), plus closing costs that add an average of 0.38 percent.
The federal home mortgage interest deduction offers home-owners a benefit, but it may be less than you think. If you are in the 35 percent tax bracket and have mortgage interest payments of $20,000 a year, you can deduct that amount from your taxable income (not from your taxes), with a tax savings of $7,000. However, the remaining mortgage interest expense still reduces your investment return by another $13,000 a year.
Real Housing Benefits
Comparing housing and stocks in "The Wall Street Journal," David Crook makes a strong case for the investment superiority of stocks over housing, but finally does not argue against buying a home. Your home, he writes "gives comfort and protection to you and your family, and it could well embody all your material hopes and dreams." These are all good reasons for buying a house, but have little to do with buying a house as an investment.