by Archie M. Richards, Jr., CFP^®
July 18, 2005

When people are rushing into stocks, buy real estate. When they're rushing into real estate, buy stocks.

Right now, a whole lot of people are crowding into real estate for investment purposes. Don't be one of them.

Get off the real estate bandwagon. If you tell friends you're buying stocks with borrowed money, they'll say you're off your rocker. But tell them you've borrowed $180,000 to buy a $200,000 house and they'll think you're a genius.

Among home buyers in 2003 who took out a mortgage, 61 percent borrowed more than 80 percent of the purchase price. In the first half of 2004, fully 71 percent borrowed more than 80 percent of the purchase price. Today, the number is almost certainly higher.

Even state and municipal pension plans are piling on, Plans such as the Texas Teacher Retirement System and the New York City pension plan are hiking their real estate commitments. The top 50 public plans want a total exposure of $128 billion, or 7.2 percent of their assets, in real properties. They expect to earn 8 percent a year from these investments, and they don't think they can achieve 8 percent from stocks and bonds.

They're wrong. In the next several years, the annual returns from stocks and bonds will exceed 8 percent significantly.

Five years ago, those same public pension plans committed billions to high-tech stocks. The subsequent bear market hit them hard. Now, foolishly, they're climbing aboard real estate.

In all investment matters, the majority is usually wrong. Go counter to the prevailing opinion. Buy stocks. If you need a house to live in, fine. But people now committing to real estate for investment purposes will wish they'd bought stocks instead.

There are many ancillary costs associated with real estate - commissions, lawyer fees, moving costs, not to mention ongoing taxes. But many people are acquiring interest-only mortgages and, even worse, "option adjustable rate" mortgages whose initial payments are so low that the principal balance actually increases. These individuals will find themselves in a pickle when they face much higher payments later and real estate prices have failed to rise. For homeowners with risky mortgages, real estate prices don't have to fall much to put them underwater - especially if they lose their jobs or suffer big medical bills.

The current clamor for real estate will not have the drastic results that the high-tech boom did five years ago. It will hurt those who are flipping high-priced properties with mortgages up to their eyeballs, but it won't hurt the entire nation.

The 2000-2004 bear market in high-tech stocks was caused primarily by the federal government (more below). Today's government is not causing the run-up in real estate prices, and it is not worsening any potential downturn.

Australia serves as an example of a real estate boom that ended mildly. From 2001 to 2003, Australia enjoyed a boom in real estate prices, with gains of at least 15 percent a year. Beginning in 2004, the boom cooled off, with prices remaining the same or falling slightly. But panic and widespread job losses have not occurred.

The U.S. will weather modest real estate declines just fine. But you won't, unless you stay off the real estate investment bandwagon. Retain your common sense and buy stocks instead.

The severe bear market of 2000-2004 was primarily caused by regulations imposed in the 1990s by the Federal Communications Commission. The worst regulation forced cable companies to share infrastructure they had built at high cost with other companies at low cost. The policies caused investment in additional high-tech infrastructure to come to a screeching halt. (For more details, check out www.archierichards.com for the column dated 3/3/03.)

Last month, with the approval of the FCC, the U.S. Supreme Court upheld the reversal of this disastrous regulation. Shortly after the ruling, Nasdaq stocks began rising smartly.

Except for the FCC regulations of the 1990s, the federal government's economic policies since 1981 have been okay, and they're getting better all the time. The FCC is not only reversing the infrastructure regulation mentioned above, it's engaging in additional deregulation as well.

Stocks are far more likely to rise than fall for any extended time. Take advantage.