For me, stocks are the better investment over real estate but these factors will help you make your own decision
I started my career as a commercial real estate analyst and have managed my own rental properties so real estate has always held a special place in my portfolio. I’ve spent most of my professional life in stocks though as an equity analyst for institutional investors like venture capital firms and large banks.
So I’m torn between two worlds talking about stocks versus real estate.
I love the pride of ownership you get from taking a property, developing it into a valuable asset and creating a steady cash flow. Then again, being able to invest in stocks for a consistent return and without all the management headaches of real estate is nice too.
Real estate investing and the stock market have both made billionaires. If you’ve been successful in either, it’s likely you’re passionate about the investment.
To call a winner in the debate, we’ll have to set aside emotion and look at what makes an investment a great choice.
We'll only be comparing stocks and direct real estate investing in this article. I know there are other ways to invest in real estate including real estate crowdfunding and REITs. I invest in both myself and they help to get all the benefits of real estate investment while moderating some of the limitations.
Liquidity: How Easy is it to Buy and Sell Your Investment
Liquidity is important for some investors but not so much for others. It’s the idea that you can buy or sell your investment quickly without giving up too much on the market price.
You can buy or sell a share of Amazon in less than a few seconds on most investing platforms. There are enough buyers and sellers that offers to buy are rarely more than a penny from the market price.
In contrast, it can take months to sell a real estate investment at the market price. I could find a buyer quickly if I wanted to take a huge discount on what the property is worth but that’s no fun. There’s no single marketplace for buying and selling property as there is with stocks.
Best Investment for Liquidity: Stocks
Investment Costs: How Expensive is it to Make an Investment
What do stock brokers and real estate agents have in common? They both make their money off YOUR investments.
Investment expenses are one of the biggest factors in how much money you make and how fast your nest egg grows.
For stocks, investment expenses include per-trade costs and annual fees paid to fund managers. On a per-trade basis, these can be fairly low. Investing $10,000 in shares of Amazon would cost $10 on most online trading platforms. Even if you bought an exchange traded fund, your fees would only be $10 plus about $25 annually on a 0.25% management expense.
Buying property means several large expenses from appraisals and legal paperwork to agent commissions. Selling your property involves many of the same fees including the agent’s commission which might be as high as 7% on the sale amount. Buyers typically pay between 2% to 5% of the purchase price in closing fees while sellers will be on the hook for that much or more.
Best Investment on Costs: Stocks
Real Estate versus Stocks: Which is the ‘Safety’ Investment?
I’ve invested through two major stock market crashes and have lived to see several more. As I get closer to needing my money, safety becomes just as important as return.
As a real asset, investment property has a tangible value you just don’t get with stocks. Stocks are financial assets, they represent ownership in a share of a company’s financial profits.
While it’s true that companies can generally raise prices to keep up with inflation, real estate is a much better hedge on increasing prices. If we were ever to see higher inflation as happened in the 80s, companies might find it difficult to keep up and profits would lag while real estate prices would jump higher.
The NAREIT Equity Index of real estate REITs has only suffered negative returns in 10 of the last 45 years and only five of those with a loss of 10% or more. By comparison, stocks have fallen in 12 of the last 45 years with six of those years at a loss of 10% or more.
Related to this idea of safety is also an element of control you get from real estate investing. Dustin of Master Passive Income argues the complete control you get over a property you own against almost no control over companies in which you have stock. Sure your shares may give you voting rights but very few investors ever own enough shares to give them any kind of voting power.
Best Investment for Safety: Real Estate
Tax Deductions: Which is the Better Investment When the Tax Man Comes?
Both stocks and real estate investing bring certain tax advantages.
You can strategically sell losing stock investments each year in a process called tax loss harvesting. This helps to offset any gains and protect your returns from capital gains taxes. You can also shield as much as $3,000 of your regular income from taxes if your stock losses add to more than your gains.
Real estate investing provides several tax benefits. You can write off any costs to managing the property against income. Even though property generally increases in value, the annual depreciation you take against cash flow may even be able to protect your regular income from taxes.
One of the best tax deductions from real estate investment is the ability to deduct interest paid on loans against your income. Eric at IdealREI makes a good point for real estate and the ability to cheaply leverage your money.
It’s true you can borrow to invest in stocks but rates are much higher and big stock market swings make it easy to lose money fast. Since real estate is a physical asset that can be used as collateral, rates are low enough that leverage makes sense.
Best Investment for Taxes: Real Estate
Ease of Diversification: Can Regular Investors Manage Risk in Stocks and Real Estate?
Diversification is an idea that gets a lot of lip service but very little application. Investors understand they need to spread their risk around many different types of assets and investments…but how often does it actually happen?
More often, investors put their money in a handful of popular stocks hoping for big returns.
I’ll argue what’s possible in diversification though rather than get into a debate about what really happens.
With low trading costs and the ability to buy some stock for less than $10 a share, most investors can buy lots of companies in different sectors. Buying an exchange traded fund (ETF) gives you access to hundreds of companies within a sector or thousands across the market.
That kind of diversification is going to protect your money from troubles at individual companies.
By contrast, buying a single investment property can easily cost into the tens of thousands of dollars. Buying just one or a few properties means you’re exposed to problems in that specific property type, i.e. residential versus office space, and to problems in that local market. Making several investments in each property type and in different regions across the country just isn’t possible for most investors.
Best Investment for Easy Diversification: Stocks
Investment Returns: How Much Money Can You Make on Your Money?
The first thing investors want to compare in stocks versus real estate is the return. I’ll admit that it’s an important factor but returns aren’t the only factor. I’ve put the section last because I think the other factors are just as important in determining the better investment for YOU.
Finding an average return for either investment depends a lot on the time period you use. Using recent returns may disadvantage real estate because of the housing bust in 2008. Four of the worst five months in more than 45 years for the FTSE All Equity Real Estate Investment Trust index occurred in the 2008-2009 crash.
I compared the total return on stocks in the S&P 500 with the return on the FTSE NAREIT All Equity Index over five periods from three years to three decades. The REIT index may not be representative of all local markets but it’s a good measure of price appreciation and rent return on the national level.
The strength in long-term returns to real estate surprised me. These are total returns, not annualized but it still works out to a 10% annual return on real estate over the last 30 years.
Stocks have done well with a 7% return over the last three decades but have only beaten real estate as an investment in the ten-year period.
I’ll go out on a limb here and say that I think real estate returns will be higher for several years as well. Stocks are trading at 20% higher than their long-term valuation measures like price-to-earnings and enterprise value-to-sales. Real estate has gotten expensive in some markets but doesn’t seem to be as pricey as stocks.
Best Investment for Returns: Real Estate
Final Winner in the Stocks versus Real Estate Debate
Well, crap! I didn’t plan on it coming out as a 3-3 draw. As much as I love real estate investing though, I still have to give the thumbs up to stocks. While returns are higher in real estate, most investors won’t see those returns because they won’t be able to diversify across different property types and in different markets. While every investor should have some exposure to real estate, the ease of investing in stocks and lower costs make them a clear favorite in my opinion.