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Measuring Real Estate Values by PE

NEW ORLEANS - As assistant dean at Tulane University's Freeman School of Business, Peter Ricchiuti is comfortable teaching the importance of price/earnings ratios and what they mean to stock prices. So when he spoke to the Education Credit Union Council here, Ricchiuti took the concept one step further. When you...

By Eileen Courter | Updated on March 01, 2005

NEW ORLEANS – As assistant dean at Tulane University’s Freeman School of Business, Peter Ricchiuti is comfortable teaching the importance of price/earnings ratios and what they mean to stock prices. So when he spoke to the Education Credit Union Council here, Ricchiuti took the concept one step further. When you look at the homes in your real estate portfolio, you can also apply P/E, he suggested. For instance, if the average monthly rent on a two-bedroom unit is $1,250 a month, or $15,000 annually, and the median home price in your area is $250,000, you have a P/E of 16.7%. That would compare to a current P/E of 19.1% for Home Depot or 23.3% for Wal-Mart. “I think that’s a very, very good way to look at housing,” Ricchiuti declared. Just as P/Es vary from company to company, home P/Es differ from one city to the next. What could cause a decline? Higher interest rates, Ricchiuti said, and “higher interest rates are coming.” Local economic shocks, such as defense cuts in California in the 1990s or the oil bust in Houston in the mid-1980s, could also play a role. He added lack of liquidity and enormous leverage to the list. “If you buy stocks on margin, people think you’re crazy,” he noted. Ricchiuti proposed another list, this one of factors affecting economic and financial issues – interest rates, domestic politics, valuation levels, inflation and international affairs. To that prepared list, he added another item. Energy. “The people who think we are going back to $20 (a barrel for oil) are wrong. Also add the trade deficit and the budget deficit. Bush says the deficit doesn’t count. I think he’s got attention deficit,” Ricchiuti stated. He predicted the yield on a 10-year Treasury note will be 5.9% a year from now. He also indicated he doesn’t think inflation or deflation will go out of control. -

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