It may be better to rent that condo
Real estate is often a sound investment, but first-time buyers may want to wait
Young Toronto professionals in their 20s and 30s may be getting bad advice from their parents when it comes to diving into the GTA condo market.
Their parents are armed with the irrefutable truth that having bought real estate 25 years ago, they’ve made a mint.
Concluding that they were smart, when maybe they were just lucky, (25 years of interest rate declines really help) they are urging the kids to follow suit. Often, they offer financial help. So the kids, worried they might be priced out of the market, are feeling the pressure.
Not such a good idea, suggests an analysis by Wealthsimple, a Toronto firm that offers investment advice to millennials.
The analysis compares 10 years of GTA condo prices to 10 years of performance by Toronto stocks. It concludes you would have made more in the stock market than in the condo boom.
“Young professionals who are stretching themselves to buy a condo in the hopes of trading up may be disappointed,” says Dave Nugent, 29, portfolio manager at Wealthsimple.
There’s no question first-time buyers are shoring up home sales, as an annual report this week by the Canadian Association of Accredited Mortgage Professionals shows. CAAMP found that 45 per cent of homes sold in Canada in the past 21⁄ years were to first-timers between 2 25 and 34.
In the GTA, they’re often buying condos because houses are out of reach.
Mortgaged to the eyeballs, the bet is that, in two or three years, they’ll be able to cash out with a bigger stake to put down on a larger property.
That’s muddle-headed thinking, says Nugent.
One mistake is to assume prices will continue to rise uninterrupted. Another is that interest rates will remain at historic lows and so will mortgage payments. A third is ignoring the risk of putting all their eggs in one asset basket.
“People think that leverage in real estate is the best kind and leverage in stocks is the worst kind,” he says. “But leverage is leverage. When it works against you, it hurts.”
Nugent has a vested interest in steering his cohort toward stocks, never a sure thing even on a good day.
Wealthsimple is a so-called “robo” adviser, an online-only service that uses computer models to build portfolios. Its fees are lower than those charged by full-service advisers and its appeal is to young people, who are poorly served when it comes to advice.
The big players are worried by the trend, which explains why Wealthsimple recently attracted a $10-million investment from Power Financial Corp. with up to $20 million more to come. Power is a major financial-services player, with stakes in insurer Great-West Life and wealth manager IGM Financial.
In the analysis posted on Wealthsimple’s website, Nugent looked at the 10year performance of an exchange-traded fund that tracked the performance of Toronto shares prices. He assumed a $50,000 investment in the iShares S&P/ TSX 60 Index Fund (XIU), with dividends reinvested.
That was compared to a $50,000 down payment on a condo. He used the Toronto Real Estate Board’s statistics on the change in GTA condo prices between January 2005 and January 2015.
The $50,000 in the market grew to $109,000. The down payment for the condo became $79,150. Inflation is ignored in both cases. The stock market comes out ahead by $30,000.
Nugent agrees that if the housing measure had included both houses and condos, the results would be different, showing an advantage for housing. But his point is that young buyers heading for condos are making false assumptions about risk and reward.
Although many think the stock market is riskier, over time, it consistently returns 6 to 8 per cent per year. It appears riskier because you can see the value of your investment change by the minute if you want to watch. But when the price of your house falls, it’s not so easy to measure. That’s because there’s no market for your house until you put it up for sale.
A financial analyst believes young professionals can come out ahead by investing money that might otherwise go into a home mortgage
Nugent says his cohort also lacks perspective since they have only experienced falling rates and rising real estate prices. They assume real estate is a slamdunk way to profit.
But 10 per cent down on a condo is the same as buying stocks on margin. You hope the value of the asset increases and you grow out of your debt. All well on the upside. No so much fun if markets turn.
“If you have 100 per cent of your wealth in one asset, that’s a ton of risk,” he says. “And when leverage works against you, it can hurt.”
Nugent is a “proud renter” living in a condo at King St. and Spadina Ave.
“The place I live in today is not the place I want to be in a few years,” he says.
He believes young professionals can come out ahead by investing money that might otherwise go into a mortgage. They can build a bigger down payment and, while they might not gain on housing prices, nor will they lose out. They can wait until the time is right for them.
The broader point is that real estate, like investing, is not the risk-free adventure we’ve come to believe.
If your horizon is a year or two, the stock market or housing market is probably not for you. But if you’re in for the long haul, then both offer attractive opportunities. Adam Mayers writes about investing and personal finance on Tuesdays and Thursdays. Reach him at amayers@thestar.ca.