Give me some leverage and a place to stand...

[mangosteen]

Meta: I haven't posted here in ~2 years, and there are reasons for that, mostly due to using an actual paper journal, and staying away from Facebook because It's Bad For Me(tm). However, there's a gap called "sharing long-form ideas with friends, and actually getting meaningful feedback/discussion."

Context: I'd like to pressure-test an idea. I'm sure that most of you could rattle off ten valid viewpoints on homeownership and the economics thereof... including a values/morals argument on whether a home should be an investment. I'm of many minds on it, although I start from "well, it is right now, at least in the densely-populated parts of the US". So...

Assertion: Purchasing real estate is the only leveraged investment generally available to the middle class in the US.* I mean that both in terms of "opportunity to acquire" and "conceptually comprehensible". I can't think of another type of widely-available investment that allows you 4:1 leverage on your money to buy a class of physical asset that has a history of capital appreciation, and then keep the capital gains for yourself.

I believe that to be true. Sure, the ROI is usually less than investing in (say) an index fund, and yet we're back to leverage. The hardest part of accumulating capital is accumulating enough to have any appreciable return. "The first million is the toughest" is more flip than I'd like, but it's true.

What I'm I getting at? Great question, and I'm glad you asked!

Buying a home is a not-great investment for most people... and thinking of homes as investments leads to a bunch of perverse incentives including NIMBYism and fights over zoning that boil down to "don't touch my property values... this is all I have." Even places where racial discrimination is actually at the root of it, I suspect you'll often find "this is my life savings, and I'm scared" sitting down next to it with a cup of tea.

So... how do we fix that? What does it look like? How do we get there? I don't know, but "making a physical, immobile, illiquid asset be one of the most attractive and legible investment vehicles for the middle class" seems like an aspect of the problem that doesn't get talked about all that much.

---

* Yes, one can do highly-leveraged investments in the stock market, but the amount of individuals who can do that with any reasonable rate of return is negligible, so I'm putting that to the side for now.

Comments

[wotw]

1) I'm not sure I understand your footnote. The historical rate of return on the stock market (after inflation) is in the vicinity of 8%. Are you saying that the average individual can't borrow on terms that make a leveraged 8% investment advantageous?

2) Government deficits are, of course, a way for individuals to borrow at low rates. Instead of taxing you $1 today, they borrow at, say 3% (a rate you could never get for yourself) and tax you in the future for enough to pay back the debt. If you take the funds you would have otherwise paid in taxes and invest them in, say, the stock market , you've made the equivalent of a leveraged investment, borrowing at 3% for an expected return of 8%.

The downside is that if you default on this 3% debt (by not paying your future taxes) you go to jail. But it's precisely the threat of jail that makes govt debt secure enough so they can borrow at 3%. That makes govt debt pretty much an exact substitute for debtor's prison --- if we still had debtor's prisons, you could borrow at much lower rates on your own without needing the govt to do it for you.

3) People overinvest in housing because of the mortgage interest deduction. The solution is to tax all interest at the same rate. But that rate should be zero, which is already the case for mortgage interest. So eliminating the mortgage interest deduction is both good and bad, with perverse incentives either way. You've pinpointed some perverse incentives of the status quo; it's easy to pinpoint perverse incentives of the alternative. I'm not sure which are worse.

4) The quickest and best answer to "How do we fix that?" is to eliminate all caps on IRAs, creating an alternative attractive and legible investment vehicle --- this is, of course largely equivalent to fixing the mortgage interest deduction not be eliminating it but by extending it to a much wider class of investments.

[elusiveat]

All I can think of is universal basic income, so that we all have something else.

[sweh]

I remember having a similar discussion with my Dad about this 10 years or so back. Of course this was about the UK market, not the US, so the incentives are different (eg no mortgage interest relief) but his point was that before the 80s a house wasn't _meant_ to be an investment vehicle. It was meant to be a house, a place to live, a place to bring up kids, a place you can retire in and not have to worry about rental payments for the next 15 years or more.

The 80s perverted this concept, and suddenly people were buying houses as a short to medium term investment. The 2008 crash showed just how over-leveraged this concept can lead to.

So my question is "why _should_ there be leveraged investment opportunities"?

It's just allowing people who have the buffer to gamble and forcing people without that safety net to put everything on the line for something that shouldn't be a gamble. The haves will always be able to play the market safely and if they lose then they shrug it off, whereas the rest of us have to take a risk in order to play (with property it's the "I want a home, not an investment").

[dsrtao]

* One can alter the perception of home ownership as an investment vehicle. If "everybody knows" that houses are a bad investment, people will rent more and tend towards buying smaller homes. In order to do that, housing stock in places where people want to live needs to be massively increased, or demand needs to go down. One might reduce the demand for housing by killing people. This is not an acceptable solution.

* One can reduce the desirability of houses as investments by providing alternative investments. I don't know what these would look like.

* One can reduce the necessity for investments. Would the economy be massively boosted if the government guaranteed a middle-class cost-of-living pension for everyone who reaches age 65? I think the arguments for this are similar to that for basic income or single-payer healthcare: you can take a lot more financial risk if you know you're not going to sink into abject poverty if you miscalculate. That significantly improves entrepreneurism and workforce mobility.

[vatine]

Being in the weird position of buying my third property (in my life, not simultaneously), I have never really considered them to be investment vehicles, more a vehicle for paying off something for me, rather than for someone else.

On some level, I like the idea of "slow", "medium" and "fast" money that Charles Stross voiced in Neptune's Brood (which, in turn, was probably cribbed from elsewhere), whereby "day-to-day" currency, "year-to-decade" money, and "decade-to-centuries" money are different, with a sliding exchange rate between them. Not sure it would make a blind bit of difference for this, though, but mortgages reminded me. And if it was actually a thing, it would be a potential investment vehicle on par with buying property.

[sethg]

Off the top of my head: replace the current system of government-supported 30-year mortgages with something more like this:

You are a fresh-faced aspiring first-time homeowner. The government looks at your income and decides what monthly payment you can reasonably afford. Based on this figure, you, your local bank, and the government cut a deal regarding the house you want to purchase, whereby you get a seven-year mortgage on 25% of the purchase price, while the government kicks in the other 75%. No mortgage interest deduction.

If you sell the house before those seven years are up, the government gets 75% of the take.

When the seven years are up, you can take whatever equity you have built up in your quarter-house and use it as, effectively, a down payment on a new seven-year mortgage, this time for 50% of the price of whatever house you can afford. If you want to stay in your house and it has appreciated… well, on the one hand, your quarter-house of equity is worth more, but on the other hand, the government is selling the next quarter-house-worth of equity to you, and can rightfully demand a higher price than it did the last time around. If the home has crashed in value, the reverse is true: your equity is worth less, but if you really want to stay in this house, the payments the next round will be less.

Seven years after that… you get the idea. After a total of 28 years you can own your home free and clear, under a regime that is less prone to boom-and-bust shocks.

This requires a certain amount of auditing to make sure that banks and homeowners aren’t conspiring with crooked assessors to cheat the government, but we need that already. Also it may require some system to buy out or pay off the homeowners who already benefit from the current regime.

[bolson]

A random liberal meme made me think: "Housing cannot be simultaneously affordable and a source of wealth". I'm sure that oversimplifies and misses some things, but I think there's something to it. If it's a good enough investment class, Big Money will snatch it up. If it's not an investment, it's an alternative to rent and you pay money to live in a place but with a different structure.

[fenicedautun]

I quibble with your thinking that mortgages are the only leveraged investment. I would say that business loans for small business and college loans are both leveraged investments available to the middle class. I would like to see more people able to evaluate their investments and their loans, so they can weigh how much the investment (business, degree, house) brings joy, how likely repayment of the loan is, and what the likely return of the investment is (or consequences, decision tree style).