You can't profit from something everybody knows about!

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It is really something how often I see articles proffering "financial advice" that "reveal" some well known fact as a source of "profit." For instance, I recently saw an article (I'm not going to go hunt for it: you can easily find one like it yourself) saying that houses are a good investment "because of the mortgage interest tax deduction."

But the mortgage interest tax deduction has existed for many years, and is hardly a secret. Thus, whatever benefit it creates is already fully accounted for in the price of real estate, so that, on average, real estate will just return the ordinary return on capital invested: real estate costs more than it would have without that deduction, and just enough more to bring its return on investment into line with all other assets. (And I'm not here claiming that markets are always and everywhere in equilibrium: but I do think markets work well enough that no disequilibrium is going to last for decades!)

Let's say that when the ability to deduct mortgage interest payments became law it had been a complete surprise to all real estate buyers and sellers. What we would have seen would be a sudden, one time jump in the price of real estate. If the deduction, on average, made a home worth 10% more than it had been worth, the day the law passed home prices would rise by 10%. And that's that: there is no further profit to be squeezed out of this arrangement.

In order to make a genuine profit, and not merely the average return on capital, you have to see something others have missed, not see something everyone else has seen for years. You could have made a profit if you were the first to correctly guess that a mortgage interest tax deduction would become law; once it is a widely known public law, it is not a source of profit.

Comments

  1. Prateek10:41 AM

    It is precisely for this reason that fundamental analysis can not help you make supernormal profits anymore. We are in the age of the internet and rapidly available information. People no longer have to scan a 1000 page Moodys report to find a rare stock opportunitiy.

    ReplyDelete
  2. Lord9:49 PM

    .. for those entering or in a high tax bracket, which is usually when people first buy, defining for whom it is a good investment. Even when housing is stable, the situation of possible buyers will differ. Outsize tax deduction rather than capital gain. Not such a good investment if you can't use it.

    ReplyDelete
  3. Unknown8:11 PM

    "In order to make a genuine profit, and not merely the average return on capital, you have to see something others have missed, not see something everyone else has seen for years"

    True but don't forget, a sucker is born every minute.

    ReplyDelete

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