In Your Market, Does Real Estate Beat the Stock Market Over the Long Term?

[Scott Trench]

I was asking myself this question the other day:

If I was an average person investing in a random town in a random part of the United States, would I be better off investing in Real Estate, or the Stock Market?

Turns out that that's pretty easy.  It seems clear that you'd be better off over the long term investing in the stock market if you buy a median priced property and rent it at a median rate in the United States.

Unless you leverage.  And the more the better. 

I'd invite you to check out this model that I built (which can be downloaded for free from the fileplace) and put input the assumptions that best match your local market. How does a property acquisition in your market fare compared to an investment in the stock market? What happens when you lever up? How about with HUGE leverage as in FHA Financing (28.5-1 levarage ratio at 3.5% down)?

In some markets with unfavorable rent to price ratios, you'll need a lot of appreciation to make up for an average investment with relatively low cashflow.  How much appreciation do you need for Real Estate to earn you a better return than the stock market?

Notice that the default assumptions I use are for a pretty standard purchase - a 20% down property that appreciates at the national average rate of 3.4% and that cashflows at the median price to rent ratio of 10.08 to 1.  

It's funny - my math (which is open to interpretation - please challenge my assumptions or the construction of my model!) suggests that a monkey randomly choosing properties throughout the country would do pretty well by just continuing to invest in leveraged real estate at random over the long term.  

Do you agree?  What is your market like? Does this change your strategy or how you think about investing in your local market?

[Account Closed]

Good discussion here. A few points to consider

1. Average growth means nothing. You cant buy an "average" home and expect it to meet average returns. You could by the whole stock market in an index fund. But if you pick stocks (Apple example) you have to pick the right ones at the right times. Also please understand the difference between"average" return and CAGR. If you buy a stock at $50 and get 100% return one year it goes to $100. Then a -50% return the next year brings it back to $50.  Your"average return" over the two years is 25%. Your CAGR is ZERO.

2. Control: The stock market is its own beast. You cannot influence any part of it. Not true with rental RE

3. Predictability: Sure over 30 years maybe the market averages are higher. But really, who has that timeframe? Kids go to college, people get sick, income fluctuates, you get laid off etc etc. Is your life really a predictable straight line for 30 years? Of course not. Your stock portfolio could be in the dumps when you need the money the most. RE is more predictable.

4. Liquidity: Stocks are more liquid. If you need your capital fast, thats were you go. But really you should keep an emergency fund in something much less volatile anyway.

There is room for both in a good diversified portfolio.