After 18 years, the home owner has a net equity position in his house of $160,000 and has paid $135,000 to establish that, for a net position of +$25,000. He started with $20,000 down, so the total improvement in equity for 18 years of home ownership is only $5,000.

The renter has paid over 18 years $27,000 less than the home owner, or an average of $1,500 per year. If that were invested with an average annual return (after-tax) of 4%, the total after 18 years would be $27,780. If the renter had invested the $20,000 that would have been the down payment at 4% (again after-tax) for 18 years, that would grow to $40,000. This means the renter would have an equity position after 18 years of $67,780 or a gain of $47,780 on the original $20,000. This is more than 9x the equity position gain of the home owner.

In this example, as corrected here, the renter is not slightly ahead, he (she) is way ahead. Other examples would yield different results. In making your own case study you must be aware of your own savings discipline. Many people who have enough discipline to make mortgage payments do not have the discipline to manage more liquid investments wisely and to make regular savings payments.

Finally, stability of income is another consideration. As many have found out in the past couple of years, it is possible to go from what appears to be secure employment to an extended period of unemployment in just a few months. Not having a mortgage makes adjustment ot extended unemployment more manageable.

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You raise the savings issue as an advantage of owning. It is a forced savings plan for many who would not otherwise save. Of course, it is a savings plan with a negative return for those who bought in the last 5-6 years. But many who have owned their home for 10-20 years have a good return on their down payment at current prices, even taking carrying costs (insurance, maintenance, property taxes and mortgage interest) into account.

A hypothetical sample: House purchased in 1990 for $100,000 with $20,000 down and worth $200,000 today. Assume property taxes at 1% of market value, homeowners insurance and maintenance costs of 1% of purchase price, and accumulated total mortage interest of $50,000. The property taxes and mortgage interest are assumed to included savings from itemized income tax deductions. Also assume equivalent rent over this period averaged $500 per month.

The 18 year totals: $27,000 property taxes, $18,000 HO and maintenance, and mortgage interest $50,000 are expenses. This totals $95,000.

The savings in rent over 18 years is $108,000. Thus we have spent $95,000 and saved $108,000, or a net plus of $7,000.

Let’s assume the buyer took out a 30 year mortgage and has not tapped home equity. The current principal due is around $40,000. Thus the current equity position is $7,000 plus $160,000. Therefore, the original $20,000 could be considered to have a value of $167,000. This is an internal rate of return (annual average) of 12.5%. If home values drop another 20%, the average internal rate of return drops to 10.8% per year. These rates of return are essentially free of income tax.

Now let’s look at how the renter could get to the same net equity position ($167,000). For calculation simplicity, let’s assume that the $95,000 spent on the trappings of home ownership was saved in equal installments for the 18 years, or approximately $5,280 per year. We start with an investment of $20,000 and add $5,280 per year. We will have $167,000 after 18 years if the after-tax internal rate of return is approximately 4% a year. If the after-tax return averages 5% a year, the renter has approximately $200,000. This is close to the average annual rate of return for the S5P 500 (including dividends) for all but the top tax brackets.

So the renter has a slight advanyage over the home owner if the money saved by renting is invested.

As I pointed out in a preceding comment, most do not save available cash, but spend it. You said: “With a house of your own, you are forced to save, and that is a good thing.” For many people, I agree.

But don’t forget timing. The savings vs. renting calculations for people who bought 2004-2007 will not favor the buyers in any way for many, many years.

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I’m a little confused by the numbers though. Specifically you state that on a 30 year mortgage the principle remaining is around $40,000. So doesn’t that mean the home owner has payed around $40,000 in principle of the $100,000 loan and $50,000 in interest?

So wouldn’t that mean over the 18 year period the homeowner has actually payed $95,000 (costs + interest) + $40,000 (principle) = $135,000 and the renter has payed $108,000.

Thus wouldn’t the renter have had an extra $27,000 that they could have saved?

The two trades you refer to are:

GLL from 6/5/09 to 7/20/09 0.00% return
SKF from 5/26/09 to 7/15/09 – 5.4% return

Successful trades:

QLD from 5/26/09 to 9/11/09 +40.5%
XLV from 5/26/09 to 9/11/09 +13.3%
DIG from 10/6/09 to 10/26/09 +10.0%
LQD from 5/26/09 to 8/6/09 +7.7%
TLT from 5/26/09 to 9/11/09 +6.3%

Currently open:

SLV from 9/25/09 (through 11/20) +15.5%

All of these and all other contrarian trading ideas are documented regularly in articles at TheStreet.com. You can access them at http://www.thestreet.com/author/1145074/john-lounsbury/all.html

The risk management processes used to control losses are spelled out in detail in the articles on contrarian portfolios.

If you have an interest in this process please follow my regularly published articles at TheStreet.com

1. Sell Gold
2. Sell Financials

You were dead wrong.

A definite great read..Tony Brown