Risks, Rewards and Return on Investment: Considerations for the Strong Citizen Homebuyer

Marty Walsh is a Strong Towns member sharing today's guest article on Strong Towns and home buying. 

A few weeks ago, Daniel Herriges penned a great piece for Strong Towns entitled Give the People What They Want that outlined the chicken and egg problem of walkable urban development: there isn’t enough of it because no one demands it directly, because no one has enough experience with it because there isn’t enough of it... It’s an issue I have come across often professionally, but even more intimately in my own search for a home.

We are currently in the process of moving from a smaller rural regional center to a much larger regional center that has grown by a third in 15 years with no plans of slowing down. This larger regional center, Rochester, MN (home of the Mayo Clinic) began it’s big expansion in the 1920’s and 1930’s, and so has some traditional development, but has added about 75% of its population since the birth of the automobile era. Housing options for a Strong Towns thinker and general “New Urbanist” are limited, and what’s available is often expensive. In fact, in the recently approved Comprehensive Plan, it’s pointed out that just 10% of housing units exist in the “Downtown Neighborhoods”, and that includes many apartments and condos.

And so, after moving from a very pre-automobile era, close to downtown, dense, affordable neighborhood single family home in Iowa, we are faced with the choice of average- to above-average-priced cul-de-sac neighborhoods, very expensive historic neighborhoods, or lower cost, lower amenity neighborhoods that have the bones of a resilient community but have not yet begun to grow into their own. (Many small cities offer a fourth choice: to move to a satellite community. However this is largely off the table for us because, as I drive regionally for work, we’d like one of us to be close to both their own office and to childcare. So, Rochester it is. But the comparisons I make below are relevant in those towns too, with mileage being an additional consideration.)

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Once I recognized that there were a number of categories that could be valued in a relatively quantitative way, my academic background as an economist kicked in and I saw a cost benefit analysis. After that, my professional background as a personal financial advisor kicked in and I recognized that the need to make financial as well as non-financial considerations in our final decision was nearly identical to making choices in an IRA or other portfolio.

Return on Investment

The first key consideration when considering investing our money (or time or any other type of capital) is return on investment. Overall, what do we get back for what we put in? We do the same when looking at investing in our community, or our potential community; considering our investment of financial capital but also our personal, emotional, political, civic and social capital investment. What personal growth will we see from living in and contributing to a community? Or is sitting out the hardest work and just buying the same tract housing as the majority of the population the way to go?

Part of considering return on investment is recognizing opportunity cost. Is the increment to which you can improve a community by buying a house — either because it’s so far gone or so mature — so little that the resources would be better spent in a totally different way?

Risk and Reward

The other consideration we make when looking at investing money in our portfolio is risk and reward. In finance, we might compare the very low risk of buying a CD and its low yield with the moderate risk and return of a Blue Chip Stock, and then the very high risk but also high potential return of a small cap stock one hopes will break out and gain many times its value, but may also fall to zero.

Generally, on the low end of the scale, you can pick up a lot of return but not much risk, and at the far end of the scale you can expect to get less and less potential return for each step of risk you take. In other words, there is a diminishing marginal return of reward to risk. We have to look at our tolerance for risk, our tolerance for slow returns, and maybe even our emotional attachment to some of our investments (grandma gave us those shares of AT&T, we want to support socially conscious causes, etc.) and we need to give those things weight.

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When it comes to housing and community development, there are, as I said, also financial and non-financial considerations when talking return and risk. Of course, there is the cost of the house and the possibility of overpaying, of having to invest large amounts of money into the house unexpectedly, and of not being able to sell for as high as you’d like to when the time comes.

The non-financials (which can often impact the financials but maybe in different ways for different people) are things like: Will a neighborhood maintain or expand its affordable (maybe), walkable, urban feel? In an urbanizing neighborhood, there is the potential that the growth you hope to be part of never materializes. Or that growth is not welcomed by as many people as you expect, or it accelerates too fast and your home becomes a developable property. In that case, you may have a financial gain, but possible cultural loss.

Your comfort for risk and need for reward will, of course, be shaped in community development, as it is in finance, by things like:

  • the size and diversification of your portfolio (do you own multiple properties or do you work in a particularly walkable/auto-oriented neighborhood that you need to hedge against?);
  • prevailing market forces in your “sector” (is there something unrelated to neighborhood style that will impact your community like a major employer or natural disaster risk?);
  • imperfect information (unbeknownst to you there are plans for a factory or high rise in your neighborhood of choice); or
  • personal situations that may merit a rebalancing (birth of a child or a serious injury).

And the same sort of rules and considerations given to strategies like buy-and-hold vs. day trading (house flipping) can inform you as well.

What this all looks like when considering what home to buy is this: Do I buy a more expensive home close to dining and shopping in an existing maturely developed walkable neighborhood, and say that my contribution to the cause is proving the existence of demand for walkability? Or do I buy in a struggling neighborhood with good bones and try to be part of the resurrection of modern urbanism to my personal financial gain and the growth of my community? Or do I buy cheap in a neighborhood that has no hope of becoming a strong neighborhood in the near or distant future and expend those extra resources (both financial and mental) to something else — maybe putting my energy into community-wide initiatives, or using the financial savings to invest in a small business?

Evaluating your own risk/return curve and return on investment — maybe by creating two curves (financial and non-financial)  and then merging them — is a great way to make as objective a decision as possible. Understanding potential return on investment will help to build your risk/return curve, and once you have it, you can apply it to individual properties in individual neighborhoods.

Some possibilities — say buying a very well kept home in a mature neighborhood from a friend or relative who gives you a discount — are low risk with the potential for great reward when you sell, or just when you get to live there. Others — like buying a dilapidated project house on an abandoned cul-de-sac — have a lot of risk and almost no reward; it’s unlikely that the community will build up around you in any meaningful time for your investment. The first scenario with the generous friend is not unheard of, but not common. The second, while maybe an extreme, is representative of a lot of options.

More likely, you’ll find yourself where we are. The experienced professionals and the invisible hand have driven prices to a certain point, and generally aligned values with demand. All you can do is look at your personal situation and the homes available for you, find where you are most comfortable and move on it. There are many right paths to strong, incremental communities. In fact, that’s partly why we use the word “incremental”. Maybe you see more strength here, and I see it there. We make our bets and we see who does better, and then we place another bet.

(Top image source: U.S. Air Force photo by Staff Sgt. Teresa J. Cleveland)


Marty Walsh is a Community and Business Development Specialist for the firm Community and Economic Development Associates of Chatfield, MN. Marty has worked or volunteered in Community Development and Small Business Development for the last 8 years, including as the Executive Director of the Main Street program in Mason City, Iowa. His academic background also includes finance and economics, and his professional background includes sales and consulting in the alcoholic beverage industry. He has been a Strong Towns reader for many years. Marty lives with his wife and daughter in rural Rochester, MN. Follow him on Twitter at @serialhobbyist1.