Great discussion everyone. As a Canadian, I also see the bubble we are currently experiencing. Knowing with any reasonable level of certainty whether the bubble will burst or growth will remains flat the next 10 years would be way above my capabilities. It is obvious however, that with the current market fundamentals and the previous 10 yr. track record, real estate as an investment at this point would not have an adequate MOS. On the other hand, I do think that this applies mostly to larger cities (as far as high prob. of significant capital losses anyway).
As an example, I live about 1.5 hrs. west of Toronto, close to 401 in a small village between London and Woodstock. It's in a new subdivision of about 30 houses so far on a about 1/3 acre lot. The house is a 2-storey, about 2100 sq./ft, 2 car garage. We paid $275,000 in March of 2009 and the property taxes are about 2800/yr. You can buy the same house today for $295,000. Noting the overvaluation in Canada's big cities, I have always thought to myself: what is my downside on this place?
Lets say the replacement value of just the building is $200,000. This means I paid $75,000 for a 1/3 acre serviced lot. Ok...off to Toronto. I'm guessing the same house, on a much smaller lot would cost around $600,000 (someone correct me if they think this is way off..just a guess). So the replacement cost of the house is $200,000...same as my house. The land therefore cost $400,000. Assuming we don't see significant deflation, that replacement cost isn't likely to change drastically. Therefore, it is land value decreases that we have to worry about the most I think. With a 20% decrease in residential land values nation wide, I would think I have a lot less to lose on both a absolute and relative (return) basis. This is because the portion of the asset that is most likely to decrease in value is a lot smaller piece for me than the guy in Toronto. But its quite possibly less liquid.
I don't think a lot of Canadians realize this....they think real estate just goes up forever. Over the very long term, they are right...but I believe the long term averages are only slightly above the inflation rate. After 15 yrs of huge growth, the probability of losses has to be much higher than say after a 15 year period of 3% growth. Real estate is so difficult to value. Theoretically, rental rates for any given property, should determine the value. However, if the rates are not predictable with a high level of certainty...it makes it pretty tough. I think the only true "investment" in real estate is 1) buying distressed ( i.e., paying significantly less that the replacement value of the building plus getting the land free) and waiting 2) buying a property for a "good" price that has some sort of a competitive advantage or moat ( ie due to prestige, geographic location..etc.) I also think it would be much easier from an investment standpoint to stick with #1. Buffett is on #2 so is Brookfield
