Diversify Your Portfolio by Renting

At the most basic level of financial investment, there are two maxims that can often be mutually exclusive. The first is to hedge your bets by diversifying your portfolio and spreading out your risk. The second is to invest in where you live; more specifically, if you are going to be paying a large percentage of your income towards your home, then it makes a lot of sense to be making payments towards something that you will someday own and may also, if all goes according to plan, appreciate in value.

The problem with all this great advice is that it can be difficult to diversify your portfolio when all your money is going towards a mortgage. This rings especially true during a turbulent market when people’s adjustable mortgage rates are increasing and forecasted appreciation is suspect; it is making more and more sense, from an investment perspective, to rent an apartment rather than buy a house.

This strategy is buttressed by a study done by three Federal Reserve economists, who looked at the long-term relationship between home prices and rents. They found that from 1960 through 1995 annual rents averaged from 5 to 5.25 percent of home prices. Then the figure started falling dramatically after 1995, reaching 3.5 percent at the end of 2006. In other words, rents are unusually low relative to home prices, and to get back to normal, apartment rents would have to soar or prices to plummet.

Check out this video from CNBC, which features a contentious conversation between R. Donahue Peebles, Chairman and CEO of The Peebles Corporation and Wall Street Journal Editor David Crook concerning the pros and cons of buying a house as an investment. The two debate the potential returns over both the short and long term in the housing market versus alternative investing options.

Net, net, if you’re on the fence as to whether to own or rent your next place, try to focus as much on the economics as on the excitement of having your own white picket fence. Be sure to research adequately and explore and compare your options by using internet resources such as MyNewPlace so that you know that you are making an informed choice that will meet your needs.

Let us know about your experiences on making decisions on whether to buy or rent from an investment perspective. Have you found that buying a home has put all of your investment eggs in one basket?

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