Any suggestions on a good, *unbiased* real estate vs. stock market comparison?

Question

I'm currently in my mid-20s, and I'm trying to set a course for my future to stick on. I've long held an interest in real estate investing, but I'm unsure if it really fairs as comparably as many seem to suggest as my current investments are.

I've had the bulk of my money in an online "robo investor" company for the past few years. Over these years, I've averaged a bit over 9% yearly return (it was a hair over 10% until last month, which really hurt it). I do absolutely *nothing* to earn this 9% - each money I automatically deposit $2,000 into my account and this company automatically disperses it around my targeted funds. That's it. I ride the highs and lows and don't worry about much of anything.

For a while I was set on flipping homes. Not as a 'get rich quick' scheme, but because I genuinely enjoyed the process of taking a rundown home and making it something sale-able. I was into this for a few months before I finally came to the conclusion that real estate flipping is too competitive around here to do it casually - I was going to have to invest a lot of time and money into finding houses to purchase, and it seemed a little too much for someone of my limited knowledge in the area.

This, then, leads me to my second interest in holding rental property. I'm having a hard time finding repeatable, trustworthy information on expected returns, but I'm seeing a lot of 8-11% suggestions on returns doing this. Like I said earlier, I'm averaging 9% returns right now doing *nothing*. Even if I could manage to earn 11% returns, I'm not sure the hassle of dealing with renters and owning a home is worth 2% above what I'm already getting. Please, BP, tell me what I'm missing because I know you guys aren't going through the hassles and nightmares of real estate when you could be making similar gains in the stock market.

Steve Vaughan · Answer

Tax advantages, inflation hedge, control, leverage, and buying under market value.  I have some in the paper asset stock funds as well and I do like the liquidity there, but my RE doesn't take a hit every time congress holds us hostage, Janet Yellen toots, Russia invades somebody, a terrorism threat appears, China or European growth slows...   I used to be all about the stock market.  Degree in Finance, Series -7 license, underwriting private placements, the whole thing.  When I realized the whole market falls when any of the above happened no matter how good of a sector picker I was, I sought more control.  Sure, tenants and toilets can be a drag, but I sink or succeed based on what I do, not something or someone else!

David C. · Answer

I think both are reasonable paths to wealth.  I see more risk in Real Estate, you end up liable for things you cannot know about or predict.  Your investments are typically far more concentrated in a single city.  Government shuts down the space shuttle program?  you live in Cleveland and all the plants close?  I'm sure there were quite a few landlords who had nice empires in Detroit, Cleveland, etc... who ended up wiped out.

For the additional risks in real estate, you should earn higher returns, and many people do.

So the question is: are you willing to take on some additional risk, and some additional work to earn those higher returns?  Personally, I am not.  If my situation were different - I would be.  I take great comfort in my lack of leverage, and my lack of tenants or previous buyers, my risk of being sued is dramatically lower with my choices - and that's worth a lower return to me.

The survivors on here, who are really good at their craft, are blowing away my returns - and with their knowledge - they are mitigating their risks, and hopefully buying insurance where they can't.

Matt R. while stocks may have historically outperformed real estate as an asset class, the stability of house prices allows for low borrowing costs, and a more typical higher level of leverage than stock investors.  So given a slightly lower return with much higher leverage, I would think the average return for real estate investors is higher than stock investors.  But its with the additional risk of that leverage.

David C. · Answer

@Nicholas Miller I expect major corrections every few years, as long as you don't sell - who cares? they are buying opportunities.

We have massive survivorship bias here.  Those who overpay or mismanage, sell at a loss and don't participate.  Their leveraged return is massively negative.

Here's my personal net worth chart.  It has gone down, but always come back up.  That dip in 2008 sure looked bad when that's where the chart ended, now its just a minor bump in the road.  Heck - even the 2004/2005 dip was dramatic and scary at the time, but now you can barely find it.  I have only my personal residence and a small amount of REIT's - no leverage and not rental properties, flips, etc...

James Park · Answer

@Jeremy Hale

I don't think it should be a topic of stocks vs real estate. I think both have its place in your portfolio. You are 25 years old and looking for a financial wealth building blue print which is commendable. I would advise you to have a holistic, comprehensive view of your wealth building process. See the forest and not the tree.

After many years of observing and researching HNW portfolios (High net worth portfolios) since I was your age. By HNW portfolios, I mean people who have million dollars plus in investable assets not including the equity in their primary residence. I was surpised to see how little of their networth is invested in Life Insurance and Annuties (5-7%) and Retirement accounts which would included IRAs (Solo 401ks, 401ks, traditional, simple, SEP etc. which make up only (3-5%) of their networth. I have a theory on why this is, but i will not discuss this topic here as we are talking about investing in stock vs real estate.

A common theme I have seen, is that most of the HNW investors I have observed have a holistic view of their portfolio. They invest in their own business, the stock market, and real estate. They understand that the two greatest tax shields that the IRS allows is their S-Corporation and REI.

It seems like you are already have a passive small businesses of your own which is a great start. I would recommend that you study up and take some classes in micro/macro economics and finance. The cycles in the financial market seems to repeat itself over time. Understand what assets rise in a deflationary environment vs a inflationary environment. Understand the different cycles like the commodity cycle and the stock market cycle and its relation to the currency market. Understand the currency markets and its cycles of when the Yen/Euro/Gold strengthens or weakens against the dollar. Understand how the international markets will effect the U.S. market.

Usually the stock market and real estate market does not crash at the same time. Both markets crashed from 2007- 2009 and real estate continued to drop while the stock market rebounded and started to rise for 5 years, so it is wise to have both assets in your portfolio.

Hope this information helps you.

Karen M. · Answer

I am so glad you asked this question.  Here is a rambling answer.

Last year I started investing again and I started looking into real estate.  I also began investing in the stock market again.

I have found out what I like about stock investing, I found a great advisory service that I have high confidence in, and I have been learning to use options for income, as well as margin buying power and protective hedges.

I sought out advice about options investing in particular because Kiyosaki says if you are going to do stocks, you had better learn options.  I am learning about options with a conservative, investor's approach (not a trader's approach) and I am making income with options.  It has been a GREAT experience.

Not everything has made money, but I am doing well in the big picture, and I am learning from the mistakes I've made. I actively watch the stock market and read and try to keep learning.

My income on options is looking a lot to me like income from an investment property -- I can make hundreds of dollars a month of income from tactics like sold puts and covered calls.

I also have a few nice dividend payers that might compare well (appreciation + dividends) with some of the lower cap rate properties out there.

Your danger with the stock market is if the market swings and you bail, you are locking in your losses.  Your other danger is if you are buying wrong (overpriced, or a poor quality business.)   Not many companies go poof!

In all honesty, I may be happier overall with stock investing vs. real estate investing, but I am still learning about real estate investing and may go there.

I am lured by the bigger returns 15%, 20%, 25%, etc.  from real estate.  My thinking:

If I can buy a high quality company with a 6% dividend trading near it's low with  no tenants, toilets and trash, why would I bother with a low cap rate property?

So if I go for real estate, I'm going to be greedy and want the bigger returns.  And maybe that is coming with much  more risk.  It is more of a business.

I have learned some important things in the past year.

1.  With stocks, there is *no way* I would go it alone without a great advisor.  My fees are not huge and I credit "my team" with helping me invest wisely and safely.

2.  It takes some time to learn how you want to invest.  At first I tried a service that was more high growth and high risk.  It did not suit me.  I later found the right fit and I feel great about where I'm going now.

3.  I think it is good to jump in -- a little.  I did not know exactly what I was doing with my first options trades, but practice increases understanding.  I am learning and it is great, it feels good.

Last -- it is VERY possible to lose money in the stock market.  Don't mess around with it.  It sounds like you have a system you are happy with that is working for you.  That is good.

Like with a real estate investment, don't forget your stock investments. You have to know what's going on.

I am not sure yet where my head is at with real estate investing.  Based on my experience with stocks, I might be inclined to try to find a great partner to learn from.   I might be inclined to focus on very high quality investments that will appreciate and cash flow.

I love the flexibility of stocks.  I have the opportunity to make small mistakes that are easy to fix or undo, usually quickly and cheaply.  With real estate, I hear it is "forgiving", but I am not sad about taking my time to learn and if I never start in RE, I will still be happy with stocks.

Good luck!  Have fun and keep learning.

I think it may be better to focus on one or the other and get really good at one strategy.  However, I do like the BP community a lot!  Fun place to hang out with the RE folks!

Wilson Churchill · Answer

Theoretically, you could become a billionaire by investing in stock options with only tens of thousands of dollars. This may have happened to a few people. More realistically, you may be able to accumulate over a million dollars by continuing to contribute to a retirement account. But real estate has generated more millionaires than any other investment class. What separates real estate from other investments? Leverage! Your stock investment is limited to your available cash. With real estate, you could, potentially, borrow millions of dollars to invest in real estate, money secured by the real estate itself.

Karen M. · Answer

I'm going to set up a trade soon that is a diagonal, or calendar spread on Coca-Cola.  In this trade (as I understand it, still a newbie)  I will use leverage control shares of KO without owning them, and I will generate income from my "virtual" shares by writing covered calls against them.

KO is not going to go poof!  This is sort of, kind of like real estate income in my mind, although I admit I am still new and getting a handle on it.

It's an interesting alternative to real estate investing, for sure.  However, I have great admiration for all the people here who are doing great with real estate.  There are many ways to build wealth!

Michael Henry · Answer

I think you are looking at the some rate of return in real estate for pace of mind type real estate investments. As @David C.  said your ROI can be higher put the risk go up.

I like to make high return in real estate and diversify in individual stocks and mutual funds.

Matt R. · Answer

I can understand leveraging can help the REI returns. Stock guys leverage too. Talk to some stock margin and option guys next time you are in Aspen or Park City:) They can explain much better than I can.

Matt R. · Answer

Historically stocks out perform RE averages - always have and probably always will. You are the perfect example of this hands off type of investing. Once you get past a certain income threshold then the huge tax advantages of stocks kick in which is partly why many of the wealthiest own stocks too. The stocks are a more sophisticated vehical of investing. Some stock guys do love VRBO properties that they use for their families vacations and make solid returns in top choice ski areas, exclusive beach spots etc...

It is not necessarily an either or situation but head to head stocks win. Not such a popular fact on a REI forum:)

Thanks,

matt

Any suggestions on a good, unbiased real estate vs. stock market comparison?

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