Historic House Price vs. Rent Ratio

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Submitted by ltokuda on April 8, 2008 - 7:08pm

Historic National House Price vs. Rent Ratio

Here's a chart of the historic national house price / rent ratio. I used the Case-Shiller data for the house price and the BLS CPI data for the rents. I thought it was interesting how much that ratio has changed over the last 95 years.

Before the 1940's, the price/rent ratio was about 0.2. From the 40's through the 60's, that ratio was about 0.4. And from the 70's through the 90's, that ratio was about 0.5. Right now, the ratio is at about 0.8!

I think there are probably good reasons why the price/rent ratio has gone up over the years. I'm guessing the formation of Fannie Mae (in 1938) might have helped to boost the ratio from 0.2 to 0.4. Then maybe the formation for Freddie Mac (in 1970) helped to boost the ratio from 0.4 to 0.5?

I'm just guessing here. I'm hoping others will chime in and provide some sound reasoning/analysis of why the price/rent ratio has changed so drastically and done so in steps.

The other question I have is "Are we at a new step?" I'm wondering if financial innovation has taken us to a new level, where a higher price/rent ratios will be supported.

Right now, the MBS market is basically in a coma so maybe we'll get back to that ratio of 0.5. In fact, it looks like some parts of the inland empire are getting close to "normal" already. But I wonder if there was real, sound financial innovation (regarding MBS's) that occored over the last 10 years. If so, could that market come alive again (hopefully in a more regulated form) and take the price/rent ratio to a new, sustainable level? Any thoughts on this?

Submitted by nostradamus on April 8, 2008 - 7:17pm.

I can't see the years on your chart.

Submitted by jpinpb on April 8, 2008 - 9:00pm.

Ok. I need a little help w/this chart. According to this chart, real estate prices have continually gone up since 1940. Declines seem modest compared to the increase. Not to question anyone here. Trying to understand. Maybe the decrease won't be so bad even this round.

Submitted by EconProf on April 8, 2008 - 9:33pm.

I suggest that for the first half of the 20th century, investors did not build inflationary expectations into their investment decisions. Deflation was a HUGE problem for most of the period up to WWII. The assumption throughout the war was that we would return to a depression after the war's end. Accordingly, anyone owning rental real estate had to get cash flow to offset the (probably) declining asset price.
By the mid-1960s and thereafter inflation took hold with a vengance. Investors in real estate now were parking their money in a growing asset, so rents could become a smaller % of the long run expected return.
Also, as has been mentioned, financing innovations and increased leverage over the decades played a big part. In the 1920s, home loans were rare and short in duration.

Submitted by ltokuda on April 8, 2008 - 9:34pm.

Thanks for the heads up, nostradamus. I added vertical lines every decade to make it a little easier to read.

Update: Historic National Housing Price vs. Rent Ratio

Submitted by ltokuda on April 8, 2008 - 9:53pm.

jpinpb, the data used in the chart was not adjusted for inflation. I just did a straight calculation:

ratio = price / rent

So, yes, relative to rents, house prices have gone up a lot since 1940. But note that price/rent ratios have stayed stable for long periods of time. It stayed at 0.4 for 30 years from 1940-1970. Then it stayed at 0.5 for another 30 years from 1970-2000. So the ratio seems to have gone up in steps. I'm not sure if we're reaching a new step, though. That's what I'd like to find out.

Submitted by waiting for bottom on April 8, 2008 - 10:04pm.

This is very likely the most incoherent post I have ever seen.

Submitted by pencilneck on April 8, 2008 - 10:16pm.

Brilliant chart! Thanks!

I've looked at similar long term trends and wondered if we're hitting a new "step" as well. I don't think so, but... Its a good question.

In the post WWII environment the US emerged as a world power and it makes sense that our credit markets boomed. And after the fall of the Soviet Union some speculated that we would have a similar 'post war' boom.

But its still a good question.

Submitted by CA renter on April 8, 2008 - 10:35pm.

1. Credit expansion

2. Leaving the gold standard/inflation

3. Baby Boomers

Maybe one or all of the above???

Submitted by Sandi Egan on April 9, 2008 - 12:33am.

I think you might be onto something, but I am having trouble understanding this...

ratio = price / rent

What numbers specifically do you use for the graph? Median prices? Annualized median rents?
How come your ratio is below 1?

Submitted by alarmclock on April 9, 2008 - 6:59am.

Isn't it obvious to everyone that we have reached a new long-term stability point in the ratio (0.8)? From this data I would have to conclude that for the next 40 years, the ratio will oscillate around this value. The housing price correction is over, so get in now, while you still can!

Submitted by jimcav on April 9, 2008 - 7:33am.

i also have trouble understanding what it means--from what i know, the HPI is an index, not actual home prices. it is a weighted average of repeat sales (how the value of a property sold at least twice has changed, not the absolute value of the property). if the ratio was something like home sales prices/annualized rents, then the ratio would obviously be 15-20 in san diego for many areas.
So, the graph says the value of homes is going up much fater than rents, and what no one knows is if it will come back down (either from dramatic drops in the HPI from repeat sales--those 550k otay homes now selling for 350k, or from similar dramitic rise in rents, not likely, or some combo, etc); or plateau as it has in the past. So I've been reading a ton and thinking about this housing and ecnomy issues.
My personal opinion, is much like the Soviet's excessive defense/military focus/spending strained them to breaking, our current ineffective and incompetent spending and focus in iraq will hurt the economy short term and possibly long, as why we focus there, china and others expand their global footprint, influence, etc. So I see further trouble for our economies--so that globalization will help those at the top and make it harder for those lower down to move up in terms of salary, purchasing power, etc. But who knows, if suddenly the gates are shut to immigrants and Visa workers, and the same jobs get filled at higher wages, then you have better salaries and purchasing power on the lower end, but then those costs have to be passed on to consumers, well something has to change...

Submitted by ltokuda on April 9, 2008 - 8:18am.

I think you might be onto something, but I am having trouble understanding this...

ratio = price / rent

What numbers specifically do you use for the graph? Median prices? Annualized median rents? How come your ratio is below 1?

Sandi, for the price index numbers, I got the data from www.irrationalexuberance.com.  For the rent numbers, I got the data from www.bls.gov/data/home.htm.   To get the ratio, I just divided those numbers for each year.

The price numbers represent the median house price but do not tell you the actual $ amount.  So a single price number by itself doesn't really tell us anything about how much a house costs.  But when you graph a series of these numbers over time, it shows you how prices have changed over the years.

The same is true with the rent numbers.  The rent numbers represent the median rent price but do not tell you the actual $ amount.  I only use this data to see how rent prices have changed over time.

The ratio (price/rent) is also meaningless if you just look at a single value.   What's important here is to look at how that ratio has changed over time.

Submitted by 34f3f3f on April 9, 2008 - 8:40am.

I'm being really thick here, but I'm not clear on what figure is dividing into what, and therefore what the trend is supposed to be saying. My guess is that it is saying home values have increased significantly over the years compared to rentals, or to look at it another way, ROI's have gradually declined. But here's me being really thick again, but putting aside asset appreciation doesn't that mean RE as an income investment would have become rather unattractive?

Submitted by EconProf on April 9, 2008 - 8:59am.

Querty007: You are right--investing in houses or condos to rent out is a perfectly horrible investment right now. I speak as one who has made money at it since the 1980's and am now largely out. It made money only because of appreciation...cash flow was never significant. Now with the rent/price ratio so out of kilter, cash flow is hugely negative. Add to that the declining value of the property and you have a recipe for disaster. At some bottom point, years away, it will make sense again. I'll be a bottom-fisher then, as will many others on this site.

Submitted by svelte on April 9, 2008 - 9:12am.

The graph looks practically identical to the house price index graph that was used, specifically the one from:


click on link in the second bullet, then click on the Fig 2.1 tab.

The only difference is that some of the minor ups and downs have been smoothed out - otherwise you could practically lay the two graphs over each other.

I also went to:


to find where the rent data came from, but there is so much stuff on that page I couldn't find it.

In any case, I think all the graph in this thread is showing is that housing prices have been the driver in the graph up-and-downs (since it matches the house index graph), while rents have been fairly consistent in 1880 dollars since 1880. Otherwise, the graph shape would have changed shape, wouldn't it? I dunno. I'm tired of thinking about it.

Submitted by Bugs on April 9, 2008 - 10:34am.

We in the trade refer to the relationship between rents and sale prices as a factor rather than a percentage.

Instead of:

Rent / Sale Price = %

We normally use:

Sale Price / Rent = Gross Rent Multiplier (which is a factor)

Your apparent point remains the same: between 1950 - 1980 or so the ratio of rents/sale prices increased from about .4% to about .50%. Between 1980 - 2000 or so the trendline itself - which is comprised ot the highs and lows - stayed generally constant at about the .50% range, and only during the bubble did it exceed that.

Your chart also demonstrates why Rich uses the 50-year trendline rather than a 100-year trendline. A (real) new paradigm did crop up after WWII, based on a couple factors.

Submitted by ltokuda on April 9, 2008 - 12:30pm.

Bugs, thanks for the clarification with the Gross Rent Multiplier.  You noted that a new paradigm cropped up after WWII based on a couple of factors.  Could you give us more details on this?

Submitted by not-so-average-joe on April 9, 2008 - 12:41pm.


Very interesting chart. Could you give us more details on which index you used for the rent? As someone pointed out above, the page has too much information.


I don't really see the point of 50 years vs 100 years. Who knows whether today makes the start of a new 50 year?

Submitted by ltokuda on April 9, 2008 - 1:09pm.

To get the rent data, here's a more direct link:


You'll be required to select some option to get the right data. Its a 4 step process.

Step 1: Select "U.S. city average"

Step 2: Scroll down and select "Rent of primary residence"

Step 3: Select "Not Seasonally Adjusted". Don't select "Seasonally Adjusted"

Step 4: Click on "Get Data"

Note: If your internet browser has a pop-up blocker enabled, you should disable that.

Submitted by Bugs on April 9, 2008 - 1:20pm.

The trendline made a big jump in the late 1940s; most economists attribute this to the postwar boom and the rise of the subdivision. There was another increase in the mid-late 1970s as a result of the changes in the tax laws.

As for why break it down to the 50-year cycle, one look at the charts should be sufficient to see that there was one trendline prior to WWII and a separate and much higher trendline starting in 1950. You could say the baby boom really did trigger that different trendline. Bear in mind, prior to this suburbia as such didn't exist.

Excluding this last spike the 50-year trendline is reasonable consistent; adding in the pre-WWII trendline only confuses things.

Now if one of the bulls can argue what seismic change in our society - comparable to the effects of the baby boom - has basically tripled the rent/price ratios from 1997-2006 then I'm all ears. Absent fundamental indicators to the contrary, and as supported by the recent pricing trends that support the return-to-trendline direction in pricing - I'm of the personal opinion that our pricing structure is going to go all the way and will probably overcorrect some before it stabilizes.

Submitted by DWCAP on April 9, 2008 - 2:23pm.

I am no bull, but occasionally I see one or two things they do. (usually just not to the same extent). Now I can be totally wrong, but didnt tax law change in 1997 to allow the deduction of up 500k in housing profits? (250k individual). Taxes on 500k is alot of money, something that would then be plowed into the value of the house.

Also the trend line pre WWII is nice to see, but not as usable as the trend line afterwards because lifestyle is differnet now. The boom in the late 1940's is due to the rise of suburbia by returning WWII verterans and their starting families. Also, WWII started women in the work force, and while it took 20 years to bloom, the beginnings of it can be traced to lower middle income people deploying the female in the relationship to get a job to raise the standard of living. Nurses, teachers, secretaries, these were all acceptable jobs for women in the 1950's that were often male dominated previously. Also previous to 1940 most people lived in cities or on rural farms and a car was an unusual thing. People either lived on the land they worked or near the factory/building.
The rise in 1970 can be attributed to the baby boom generation. The first boomers were born in 1946 and take that out to 23-24 years later (marrage and college age) and there is your spike. Demand from one of the largest generations hit the market. The boom in 1997 can be linked to a change in tax rates and demand from the baby boom generations children (1997-1970= 27years old).

None of this explains the giant spike observed between 2000 and 2007. That was loose lending and ignoring risk in lending markets. That will self correct. No generational or immigation shift I know of can explain the 2003-2005 insanity.

Submitted by FormerSanDiegan on April 9, 2008 - 2:39pm.

First of all, I don't think there is anything to justify a permanently higher plateau. But I do have a couple observations.

1. Like the tax changes in the 70's mentioned above there was a significant tax change in 1997 for personal residences. The change is the capital gains tax exclusion on the first 250K (or 500K if married) on the sale of a primary residence.
Over the long term, this could effectively makes a primary residence a little more attractive over the long run, if everything else were equal. I would expect this to raise the ratio slightly (maybe by 5 or 10%) not the 60% increase shown.

2. The ratio of an asset price compared to income or rent derived from it can be interest-rate sensitive. For example, one might be happy to pay $100,000 to buy a property that rents at say $1000 per month when bonds or alternative investments are in the 5% range. However, if alternative investments are paying 15%, it doesn't look so hot. After a long-period of declining interest rates from early 1980s until now I would expect some upward bias in the valuation on your chart. Going forward, I think the trend will at best be flat rates and perhaps significantly higher rates, so this would not help the higher plateau theory.

Submitted by Ash Housewares on April 9, 2008 - 4:59pm.

This question stems out of FSD's post; I was wondering what the method for calculating a GRM is for a given interest rate.

Using the 5% example of FSD above, I reason a GRM of 240 (which seems high) is justified:

annual rent = 5% of price
12*monthly rent = price * 0.05
12/0.05 = price/monthly rent = 240

Is that how people come up with their "rule of thumb" GRM numbers for screening properties?

Submitted by jpinpb on April 9, 2008 - 5:02pm.

FormerSD - Good point about the capital gains tax

Submitted by FormerSanDiegan on April 9, 2008 - 5:38pm.

FormerSD - Good point about the capital gains tax

Yes, but give DWCAP credit for beating me to it while I edited my post.

Submitted by ltokuda on April 9, 2008 - 7:26pm.

Thanks for all the great input. I want to start investigating these ideas and post some feedback data on them. One thing I'm trying to understand is the tax changes of the '70. Can someone give more details on that? I tried searching the internet on it but came up empty.

Submitted by Bugs on April 9, 2008 - 8:03pm.

One of the big changes in the 1970s was the passing of Proposition 13, which capped the rate at which property taxes could increase (2% per year). In most states, property taxes aren't capped, which means that if a property value increases by 20% in a year the property tax due also increases by the same amount.

Without Prop 13 just owning a property would get more expensive if the markets increased. For the average $200,000 property in 1997, that property owner's tax bill would having increased from $2,200/year to $6,600/year by 2006. The other $4,400/year would have debt serviced another $60,000 in mortgage encumbrance. That's one of the changes in the tax laws.

The demographics factor is a knife that can cut both ways. From the late 1960s on the boomers have been a driving force in our economy. We took consumerism to new heights, and I don't mean that in a good way.

The natural cycle of a person's life has them consuming more when they're in their 20s and 30s and they don't even think of slowing down until they hit their 40s.

Now the boomers are starting to retire which means they're also going to be retreating from their consumption. Sure, some won't be in a financial position to retire, but a lot of them won't really have the option. What are the job prospects for a 65-year old if they basically get forced out of their job?

San Diego is a nice place to live but it's only a good place to retire if you have a LOT of money. I think a lot of local boomers are going to end up leaving because they won't be able to afford to stay. Seeing as how we aren't building the kinds of businesses that can support all these high dollar houses I question what economic changes can happen that will provide the impetus to sustain any extended pricing runs in the future.

Anyways, we just saw what happened when the investors got out of the RE market - it collapsed due to oversupply. If boomers really do start leaving town in any great numbers in the next five years it's possible that we may end up with an oversupply situation for quite a while. My former partner once said that SD County has all the "move up" inventory it will need for the next 20 years. If we don't build another 4,000 SqFt tract homes on 10,000 SqFt subdivision lot in the next 15 years we still won't run out. What we really need are a lot of 1,200 SqFt starter homes.

Submitted by ltokuda on April 9, 2008 - 8:37pm.

Bugs, thanks for the explanation. The demographic factors make some sense to me. The passage of Prop 13 makes sense to me for the California market. But the increase in the Gross Rent Multiplier (from 0.4 to 0.5) in the 70's happened at a national level. I'm not sure if there were any federal tax laws that could account for that. I'll have to research and think about this more. Thanks again.

Submitted by EconProf on April 9, 2008 - 9:12pm.

Inflation rose throughout the 1970s, climaxing at 13.5% in 1980. House prices also peaked in 1980, along with gold. House prices fell somewhat in the early 80s due to ungodly tight money--mortgages were 16%.
The point is, inflation in house values became part of the reward for being a landlord. Cash flow--rent relative to price--became less of a factor. Thus the rent/price ratio changed permanently by ratcheting up. The same pattern repeated itself after 2000.

Submitted by ltokuda on April 10, 2008 - 12:19am.

BobS, I hadn't thought about the effects of inflation until you mentioned it ... especially after we got off the gold standard. Since buying a house is a hedge against inflation, I would guess that it could affect the fundamental valuation of a house. I can see why the GRM might jump from 0.4 to 0.5 in high inflationary periods. But I don't understand why it would stay at 0.5 for 25 years after that while inflation eased. I'm still thinking this one over.

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