Monday, 7 November 2016

The craziness of real estate in Toronto

Fact: In 1970, the average price of a house in Toronto was $30,000. Forty year later, the average price of a detached home in Toronto is well over $1.2 million. For all homes including condominiums, townhouse and semi-detached houses, the average price in Toronto in 2016 is well over $600,000.   

Conclusion: Based on the $600,000 figure, the average rate of increase is about 7.6% annually. 

Projection: It is estimated that by 2056, the average price of a home in Toronto would cost well over $3 million assuming a 4% average increase per year. I think I will include this article in my will to be handed down to my children and my grandchildren to see if it materializes. Better yet, put it in a time capsule to be opened on December 31, 2056 long after I am gone or if I am still alive at 92 years of age.

Fact: Over the same 41 year period from 1970 to October 31, 2016, the S&P 500 returned an average  10.2% , including dividends reinvested.

So, one can conclude that it would have been better to invest in the S&P 500 instead of real estate, right?  If one had rented instead of owning a home (with mortgage and interest payments, maintenance, and etc.), the math can get interesting.  I have yet to figure out how to best present  the analysis,  but have concluded that Investing in Real Estate by purchasing a home beats renting and using the down payment and additional costs of home ownership to invest.

And the difference is due to …… leverage.

Assume you put 20% down payment or $100, 000 on a $500,000 property  . If the property appreciates 7.6% per year, which is what the Toronto market experienced on average,  you gained $38,000. But on a $100,000 investment.  So, the true gain is 38%, which beats the 10% average return on the S&P  500.  

The opposite would also hold true if the property lost 7.6% in value, and you would have lost 38% on your initial $100,000 investment or down payment.  As in most financial literature,  I assume no transaction costs and ceteris paribus (everything else remains equal).

See  link to the Toronto Real Estate Board historical prices.

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