Investing in Real Estate and Warren Buffett

The other day, I saw an article shared on Facebook titled “Warren Buffett’s Best Investment.” The article was referring to a vacation property that Buffet purchased in 1971 for $150,000. Today, the home is listed for $11,000,000. People are astonished. People commented about how this exemplifies the profitability of investing in real estate. Due to my general disbelief that real estate is a good investment over the long haul, I decided to do a simple opportunity cost analysis. Granted, Buffett purchased this home for vacations not necessarily as an investment to grow his portfolio. Nonetheless, what if Buffet invested the same $150,000 in his company or the S&P 500?

Here is what I found:

Buffett’s Berkshire Hathaway, from 1965 to 2015, earned an average annual rate of return (with dividends reinvested) of 19.6%. If he invested the $150,000 at that rate over the same time period he owned the home (46years), the present value would be over $550,000,000. This exponential growth from $150k to $550 million exemplifies the power of compounding. Investing early, even small amounts pays huge dividends down the road.

Nevertheless, a 19.6% return is a remarkable feat. Here is a more realistic comparison:

It would take an average rate of return on the 150k of 9.8% for 46 years to equal 11-million-dollars. The average rate of return of the S&P 500 over the same period, with dividends reinvested, was 10.34%. At this rate, the 150K would be worth almost 14-million-dollars. That is three-million-dollars more. It is worthy to note that the 0.54% return over the course of 46 years made a three-million-dollar difference. This demonstrates how large an impact fees can have on an individual’s retirement portfolio. Be conscious of fees.

Was this Warren Buffett’s greatest investment? No, but a 9.8% return is great. Warren Buffett acquired this home for living. The point of this post is to encourage people to think twice before investing in real estate. It isn’t a sure bet, and you should consider the opportunity cost of choosing another investment vehicle. Once you throw in the various costs of ownership such as property taxes, maintenance, etc., other investment vehicles look even better. Further, owning physical property presents a problem of liquidity.

Personally, I believe homes are for living. From 1900-2012 the U.S. real estate index has returned 3.4%. This barely beat the average annual rate of inflation. I think the attractiveness for most people centers on tangibility, less volatility, feeling more in control, and the common “my parents purchased this home 40 years ago for 100K now it is worth 300K.” Of course, there are always exceptions, and people have made great livings investing in real estate.

That is my take.

Thanks. Matt.