Are Stocks A Better Investment Than Real Estate?
According to this article in Money Magazine, stocks are a better investment, based on a study taking in account the years 1978 to 2004.
While there are some valid points favoring stocks over real estate, I think it was a one sided arguement.
Why choose a period where the stock market did very favorably? According to Gary Burtless, the real return on stocks since 1885 using a 15 year trailing return is only 6.3%.
I would assume real estate to keep pace with inflation or around 3-5% per year over the same time period. So on the surface, stocks do seem superior to real estate.
However there are certain benefits to investing in real estate that have to be considered.
1. Leverage
You can get in with only 10% down, sometimes even less. In stocks, the best you can do is 50% down. The higher the leverage, the more you make if you’re right. (The converse is also true!)
2. Tax Savings
You can defer paying taxes on the profits indefinitely using 1031 exchanges. Not only that, you can use phantom depreciation losses to deduct upto $25,000 from your regular income. With stocks,
you can deduct actual losses but only upto $3,000 of regular income.
3. Ease of Understanding
While investing in real estate is more difficult per se than stocks, this is an advantage. It helps keep the novice investors out, and keeps prices inline with valuations (well except in the recent past where everyone become an investor!).
With so much money chasing stocks in 2000 and so many execs lying about company performance, tech stock prices saw incredible appreciation. Many of them tanked 90-100%.
A 90% drop in real estate prices is difficult to imagine. Not only that, you always know if a property is fairly valued or not.
If the rent doesn’t cover your holding costs even after you put down 25%, you’ve probably overpaid for it. Thats a very simple rule of thumb! Unlike in the stock market, you can’t hide behind fancy accounting in rental property!
Conclusion:
Listening to the popular press will usually never help you in the long run. However, I think it boils down to investing in what you know. There are people who’ve made incredible amounts of money in the stock market. But I think these people make money in all asset classes without playing favorites.
For example, Warren Buffett has invested in foreign currencies, commodities and even a manufactured home-builder (and along with it real estate) apart from his stocks.
I also know a few people who make money day trading for a living. Even these people invest their excess profits in real estate! If you can trade stocks, you can definitely understand real estate calculations.
For most people who know nothing about investing and don’t want to know, investing in stocks is the easiest way to invest. It may not be the best but its the easiest and most likely the only way they’ll ever invest at all.
But I don’t think the two classes are mutually exclusive. I’ve made incredible amounts of money in real estate, which wouldn’t have been possible with the stock market. But now, I’m moving some of my profits in stocks and commodities because I think the easy money in real estate is gone.
I think you should invest in anything that makes sense. Don’t get married to any stock, properties or any particular asset class. There’s a season for all investments!
Here’s a good post on looking for investment ideas and the basics of investing in real estate
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April 20th, 2007 at 7:41 am
I feel it’s all about diversity. Of course, don’t put all your eggs in one basket. I like stocks (ETFs, Mutual Funds) because of the low risk. But, real estate it can be all about location. Stocks it’s just finding the most valued company, which is much easier for me.
You must have the time on your hands to put your energy in RE, ie landlords, maintenance, etc. Stock market is more different.
December 14th, 2009 at 7:46 am
I think that even asking the question of ‘which is better?’ is the wrong approach to take. Different investments have different characteristics, as you’ve pointed out. Real estate offers leverage and tax advantages, mutual funds are diversified and easy to invest in, stocks have the potential for huge gains with little work on your part, and bonds offer safety. Which is the best? Whichever one meets the needs you have at the moment.