How does stock investing compare to real estate investing in Summit County, Colorado?

Recently, I received a call from Kimberly Nicoletti of the Summit Daily News asking if I would be willing to answer a few questions pertaining to investment in real estate in Summit County.  Her plan was to have two experts speak, one on stock investing and one on real estate investing.  I selected "stocks for 200, Alex".  Just kidding.  Happy to oblige, I submitted my answers and was then informed that we were limited to 500 words.  So, I had to do some significant cutting to fit (and still squeezed in a few over the limit).  You can read the published version here along with the counter point by Financial Planner Steve Smith.  Or, if you like, you can read the full version below. 

===================

Q: Do you see a lot of biases guide real estate investment? If so, what kind?

Certainly, there are biases inherent in any investment decision.  One would hope that professional advice would help any investor overcome at least some of their biases, but at least two dynamics may inhibit the taking of good advice:  (1) disinterest on the part of the investor for any advice contrary to their preferences; and (2) incompetence or lack of knowledge on the part of the advisor.  Nevertheless, biases governing a decision to purchase real estate would certainly include (a) accumulation of wealth, (b) desire to include shelter with investing, (c) expansion and/or stabilization of vacation possibilities, (d) gaining ownership of a limited commodity (land), and (e) a desire to leverage an investment for greater returns. 

Q: Do you think Summit County is in somewhat of a bubble -- more immune to real estate downtrends -- than the majority of the nation? Why or why not? 

I do believe there is a certain immunity from the downtrends currently being experienced in the majority of the nation.  If you look at where the markets have softened, they are almost all in major metropolitan areas – where primary home ownership depends largely on the availability of good jobs.  The dotcom bust a few years ago closed numerous businesses across the country, and the loss of jobs was heavy and significant.  Even areas that have since gained jobs are finding that many of those offer less pay and stability – they are not replacing those that were lost.  Yet even those markets are not universally downtrending.  In Denver, for example, regardless of the media labelling as a “soft market”, if you were to purchase in neighborhoods like Belcaro, Bonnie Bray, Cherry Creek or in communities like Arvada and Golden, you would find little or no negotiating room on prices – and new construction projects are selling out within normal time limits. 

However, historically, Summit County has been uptrending since the early 1980s, and you may recall that we were presented at that time with a national economic crisis predicated on a massive oil shortage.  Our market is differentiated from major metropolitan areas by several dynamics, all of which argue for a continued uptrend:

· Summit County is predominantly a second home market – roughly two thirds of all properties in the County are owned by non-residents.  The market is changing somewhat as more retirees find their way to live here full time, but even in that case, we are talking about people who have saved or earned their way to retirement heaven.  We are actually finding more and more people whose primary home is here and their second and/or third homes are elsewhere. 

· Summit County is approaching build-out.  That is, in roughly four years, all the land available for development will have been built on (or the development will have been accounted for and planned).  There will be no more land available.  Frisco is the first community in the County to actually reach build-out.  You cannot build anything there without tearing something down. 

· Multi-family building permits have plummeted, while single family permits have spiked.  As a result, those 40-to-100 unit projects that used to be injected into the overall inventory are no longer there.  [Exceptions include the very high end developments on properties owned by the resorts.]  Inventory is roughly 30% of normal, which means that, for every 10 homes I could have showed you to fit your criteria a couple of years ago, I could only show you 3 today.  More and more properties are experiencing competing bids, resulting in winners and losers.  About 4 out of 5 buyers are leaving empty-handed. 

· The sub-prime mortgage problems have had very little effect on our market.  People who buy second homes in Summit County often pay cash.  Those who do not often have sufficient credit and resources to do normal financing.  Creative financing has not been generally necessary for buyers to get into properties.  So, while we do have a few foreclosures, the percentage of those do not even come close to metropolitan area foreclosures. 

· Locals housing is becoming more and more unaffordable, prompting every community and the County to push for more affordable construction or conversion.  We clearly have more buyers than property available in that sector, as well. 

· With regard to second homes, we are servicing predominantly two vital sectors of the American population – GenY'ers and baby boomers.  GenY'ers represent a hard working younger generation with well-paying jobs who do not want to wait for retirement to enjoy life.  And, of course, baby boomers have reached the age where they feel they have earned it.  Those with the resources are flocking to resorts like ours.  And Summit County is not unique in that respect.  Go to just about any western ski resort and you will find the same phenomenon.  The Rocky Mountain Resort Alliance reports quarterly statistics on real estate sales in each of their resorts.  Appreciation on Summit County properties is mild in comparison to places like Park City, Utah, Jackson Hole, Wyoming and Sun Valley, Idaho. 

· It is predicted that our population will double in the next 15 years.  At that time, it is estimated that we will be short over 2,000 housing units.  That will force those who can less afford to purchase here to buy more and more in outlying communities like Fairplay, Kremmling and Leadville, which, by the way, are all experiencing strong growth and development. 

· Global warming.  A touchy subject, I know, and perhaps risky to address as we progress through a Fall season with far less than ideal snow.  However, I understand that some ski resorts have already closed in the East, and there is some discussion that certain people purchase here who feel that, because of our altitude, we will be less affected by changing weather patterns than lower elevations. 

Certainly, the market is not perfect.  One cannot simply buy anything at any price and expect a positive return.  It takes knowledgeable planning, forethought, and the ability to walk away from a deal that does not work.  That is where good advice comes in.  But, the laws of supply and demand clearly argue for a continued healthy real estate market in Summit County. 

Q: Do you think that real estate or stocks are a safer bet right now? Why or why not?

Stocks have continued to rise beyond expectations, much as they did prior to the dotcom bust.  Many people have accumulated wealth through the stock market.  But, as with real estate, I would not venture into stock investing without a very knowledgeable advisor on my side.  And yet, many of our buyers are disenfranchised stock investors.  Whenever that market takes an unexpected downturn, a percentage will pull their money and put it into real estate.  (The reverse may, of course, also be true.)  Even in 2000 (dotcom bust) to about 2003/4 (coupled with 9/11), the Summit County market, in general, was relatively immune, and improved at 3% to 5% per year (much less than the prior 10 years, but certainly healthy).  The exceptions were primarily in Keystone and Copper Mountain, where properties were sold at launches at inflated prices, and new construction inventory was plenty.  Yet, even those markets took only about 3 years to come back to normal. 

Real estate is not just a paper asset.  It also provides shelter, whether full time or occasional.  So, an investor can experience the joy of use of their home, or they can supplement their investment with rental income.  In addition, you have the opportunity with real estate to be an active investor, rather than a passive one.  One of my good friends, Rennie Gabriel, a CFP (Certified Financial Planner) and CLU (Chartered Life Underwriter), has made millions as an investor in rental properties, and argues for active investing.  He has the following to share: 

· REITS give people diversity, but no control, just like a mutual fund. Diversity is great for mediocre returns. I have always wanted great returns.

· It is difficult to determine my investment return from capital versus sweat.  I was willing to work to produce great results; I am not a passive investor.  I have selected the properties, improved them though remodeling or repairs, and then managed them.  But I have been handsomely rewarded for it, far beyond the 5% management fee I pay to my corporation.

· Most people do not have the willingness or experience to be active investors, but if they do, the rewards are far greater than historical returns for the stock market or for passive real estate investing.

· What does a 7% return mean to me when I am investing in apartment buildings that have been mismanaged and have deferred maintenance?  Nothing.  I can take a building and double the rental income in 6 months through remodeling and effective management, and that results in fantastically higher returns. 

· I am not against investing in the stock market, per se, but active investing most often is ignored in interviews with financial planners, stock brokers and the like.

According to studies by the National Association of Realtors: Real estate is a key driver of the American economy and continues to be a solid long-term investment for most American households.  Housing generally provides steady returns unaffected by volatile movements in the stock market.  Homeownership is how many American families begin to accumulate wealth according to the U.S. Federal Reserve Board.  Since record keeping began in 1968, the national median existing-home price rose every year through 2006, even during recessions and periods of sales decline. Typically, in a balanced market, home values rise at the general rate of inflation plus 1.7 percentage points.  Home prices flattened in most metro areas during 2007, following a period of abnormal price growth during the housing boom, but modest gains are expected in 2008.

Dollar for dollar, the rate of return on an individual’s cash down payment on a house is substantial. Home buyers typically use their own money to cover only a small portion of the purchase price, but the home appreciation they realize is based on the total value of the property.  According to the NAR study, first-time home buyers made a median down payment of 2 percent, while repeat buyers who financed their purchase put 16 percent down. However, 11 percent of repeat buyers paid cash, thanks to the equity they had built in their previous home.  Keep in mind that, if a buyer puts 10% down on a real estate purchase, and it increases in a year by 10% of the total value (and Summit County real estate is currently doing much better than that), the buyer has just doubled his/her value.  That is a 100% return in just one year!  Oh, and that return is easily sheltered from taxes. 

Yet, housing is not a quick-in, quick-out investment.  When purchased for the long term, housing is one of the safest investments consumers can make.  In addition to the savings accumulated through a buildup of equity and tax advantages, a home provides shelter. No paper investment provides this benefit.  According to Harvard University’s Joint Center for Housing Studies, the rate of return on a housing investment dramatically increases the longer it is held.  For instance, an owner whose home appreciates at a typical annual rate of 5 percent and who made a cash down payment of 10 percent generally will receive a 94 percent return on that cash after owning the home only three years.  After owning for five years, a homeowner can expect a rate of return on the down payment to increase to 225 percent; after 10 years, the rate of return jumps to 623 percent.

The stock market has experienced wide swings in value over the past 20 years.  During that time, overall home values have continued to rise steadily and contribute significantly to household wealth and spending patterns.  Since the early part of this decade, many consumers have diversified their portfolios into real estate, often by purchasing a second home – a wise and practical move that provides relatively safe long-term returns from a tangible asset.

Finally, homeowners accumulate significantly more wealth than renters. According to the most recent Federal Reserve Survey of Consumer Finances, the median net wealth of a renter household is $4,800, while the median net wealth of a homeowner household is $171,700. Clearly, owning a home is the best way for most families to build a nest egg.  Homeowners can then use their home equity to get cash for emergencies as well as for the purchase of big-ticket items, and have more confidence in housing wealth gains than stock gains that could be unsustainable. In addition, the capital gains that owners realize from the sale of their home are a significant source of down payment funds for most repeat buyers; those funds are also used for other purposes that stimulate the economy through consumer spending.

Last, but not least, many people have either been victims of, or generated much anger over, such investment fiascos as Enron and Qwest, along with reported huge incomes of CEOs who lead their companies to the brink of ruin, or at least do nothing obvious to earn their salaries and benefits.  In real estate, you just have more control.