'Shares or property' debate


  • Letters
  • Sunday, 10 Aug 2003

By JEFFREY FRANCIS

AVID investors often wonder which would give them greater wealth – the stock market or housing property. Such curiosity, as it were, is not surprising. Everyone would like to know what is a good investment before he or she puts money in it. 

But how does one judge which investment is better? Theories differ according to the likes and dislikes of investors in general. 

Some believe that investing in “mortar,” representing the bricks that are cemented together to build a house, is definitely better. 

One reason for this is that more people own houses than shares because they can see and touch their investments and not worry about their disappearance either by theft or fraud. And they’re assured of a monthly income from renting out the property. 

These are long-term investors who are not really worried whether the bull is running the stock market or the bear is clawing it down. For them, a roof over their heads is a sort of security or the fulfilment of a dream of comfortable living. 

It is an Australian culture to build their own homes and buy more, if they can afford it, no matter how small. And the federal government encourages every family to own their first home by providing a A$7,000 housing grant. 

What makes it attractive, too, is that financial innovation has made it possible for more people to get loans with almost no deposit to build up their housing wealth. 

Yet others are convinced that the script of the stock market not only gives better leverage but is also easy to turn into cash. Or they trade to make more money by selling during a bull run and buying in a bear market. 

Both can end up in big losses if the investment is in the wrong stocks or, in the case of housing, the property is in a wrong location. 

So what is the true position? Which gives the best returns? 

Nikola Dvornak and Marion Kohler of the Economic Research Department of the Reserve Bank of Australia have made an interesting discovery that will probably not end the consuming debate on the issue. 

Their approach to the question is the result of the dramatic changes in stock and housing values over the past 10 years that have renewed policy and academic interest in the effects of household wealth on consumption expenditure. 

Indeed, it has been argued that the effect of changes in housing wealth is larger than the effect of stock market wealth. 

But Dvornak and Kohler believe there are other factors that “work in opposite direction and so an assessment requires quantitative estimates of the effect of changes in each type of wealth on consumption.” 

In a discussion paper released recently, their analysis of the data shows that both stock market and housing wealth have a significant effect on Australian consumption. 

They estimate that a “permanent” increase in household stock market wealth on a basis of A$1 increases annual consumption by six to nine cents in the long run while a “permanent” increase in housing wealth of the same amount and period would raise consumption by around three cents. 

“However, given that household’s housing assets are more than three times as large as stock market assets, our estimates imply that 1% increase in housing wealth has an effect that is at least as large as that of 1% increase in stock market wealth,” they say. 

They give six reasons for this “lumpy asset” to turn into cash just as easily as shares are. 

First, easy access to home loans these days is likely to have increased the liquidity of housing assets judging from the number of home sales. 

Second, housing represents both an asset and a consumption item. When the price of a house increases, wealth would also increase. But so, too, would the cost of housing services. 

Third, consumers of all classes tend to own homes while higher-income groups are thought to concentrate on the stock market. Therefore, changes in housing wealth might have a larger impact on consumption than changes in stock market wealth. 

Fourth, the difference in perception among consumers of what assets are likely to be permanent or temporary or uncertain due to past experiences of sudden price reversals. 

Fifth, consumers may not find it easy to accurately measure wealth because houses are less often traded than shares. On the other hand, consumers may not be aware of the exact value of their indirect share holdings, such as pension or superannuation funds, until they are close to retirement age. 

Finally, some consumers attach certain psychological factors to home ownership because it provides a visible sign of status while others use “mental accounts” and earmark certain assets as more appropriate for current expenditure. 

The two researchers also take into account that housing wealth should be measured net of housing debt, which is between 60% and 80% of all household debt in Australia. 

Stock market wealth, however, is usually hard to measure due to the lack of information on how much, if any, is the personal debt used to finance the purchase of shares. 

Yet the coefficient on housing wealth is often found to be insignificant. Why is the effect of housing wealth so elusive? 

This consideration is important because the explanation of Dvornak and Kohler can be applied in any country. 

One possible reason, they believe, is there is a “high degree of correlation” between aggregate housing wealth and stock market wealth that not only make it difficult to disentangle the two effects but can also cause the housing wealth to appear insignificant. 

Because the housing market in each state is geographically distinct, “each will be affected by regional shocks in addition to national macro-economic shocks.” 

They add: “Thus the profile of housing wealth over time should differ from state to state. In contrast, stock markets are highly integrated across states so we would expect similar trends in the valuation of equity market profiles throughout the country.” 

Dvornak and Kohler believe that the stock market effect is higher than the housing effect, especially in the long-term stocks. 

And they find that the stock market wealth increases consumption by about six to nine cents in the dollar compared with three cents in the dollar from the housing wealth. This is even truer when compared over a 10-year period. 

However, they conclude that both the housing and stock market wealth are significant determinants of consumption in Australia. 

“In most cases, the marginal property to consume out of stock market wealth is estimated to be larger than that of housing wealth,” they declare. 

Jeffrey Francis is editorial consultant, Australasia-Pacific Media (e-mail: francis2@global.net.au) 


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