Why Property is Better Than Shares

Excel is your friend. Below is a more realistic comparison based on assumptions that would be typical of Australian investors. It shows very little long term difference between the 2 classes where property is leveraged and shares not.

Assumptions for property:
- Initial investment $125,000
- Property initial value $500,000
- Buying costs $25,000
- Leverage 80%
- Loan $400,000, IO @ 6% (possibly the long term IR average going forward)
- Capital growth 5% pa
- Net rent 3.5% of property value
- This equates to a total return of 8.5% pa consistent with well accepted long term averages for property.

Assumptions for shares:
- Australian shares fully franked where all dividends and franking credits are reinvested
- Initial investment $125,000
- Portfolio initial value $125,000
- Buying costs almost nil
- Leverage nil
- Capital growth 5% pa
- Dividend 4.2% plus full franking
- This equates to a total return of 9.2% pa (not inclusive of franking) consistent with well accepted long term averages for shares.

Outcome

It’s a draw really.

However at the end of ownership property will incur a bit of selling cost, say $20,000, giving shares a very slight advantage:
- Total proceeds at the end of 10 years: $335,777 (property), $354,928 (shares)
- Total proceeds at the end of 15 years: $587,591 (property), $598,074 (shares)

I think variation of outcome within each class could be much more important than between classes, i.e. good or bad selection of individual property/shares is of the essence.

 

I couldn't give diddly squat whether property performs better than shares or not. For me it's mostly been about the sheer amount of baggage that property brings with it.

PROPERTY:
1. Long winded pain in the arse buying and selling process with building / pest inspections, getting insurance, conveyancer, Massive transaction costs, choosing a PM, negotiating, waiting for a tenant, stamp duty, RE agent fee, quick Reno to get ready for renting or selling etc.
2. A pile of ongoing expenses such as rates, land tax, insurance, body corp, PM fee, maintenance, repairs etc..
3. Tenant trashes the IP, happened a couple of times.
4. Tenants trips over paver tries to sue owner.
5. PM crap and IP poorly attended to.
6. Kitchen catches fire.
7. IP flooded but insurer wouldn't pay up - inundation across land not from waterway.
8. IP has no tenant for weeks.
9. Pathetic rental income.
10. PM goes bankrupt so have to deal with liquidators for 12 months to get months of rent owing.
10a. Unit complex PM gets gambling problem so again waiting on the liquidator to sort mess out.
11. Managing CGT hard given IPs are lumpy assets.
12. Renovations, a real pain and major expense.
13. Major storm damage.
14. Tenant clears out without paying rent leaving a mess in the house and yard.
15. It should be noted that these were higher priced IPs in good areas.

Yes all the above and much much more happened to me when we owned multiple IPs. All IPs have been sold except one which the mother in law lives in. So far so hasn't trashed the place.

Personally I would also ignore the positive posts by most of those with vested interests for obvious reasons.

LIsted Investment Companies:
1. Buy online in an instant.
2. Tiny transaction costs eg $500k of shares costs $550 brokerage.
3. LIC mgr manages the portfolio for as little as a rediculously low 0.10 to 0.18%.
4. Great income with franking.
5. Nothing else to do but smile when the dividends hit the bank account.

I know what my choice is based on the above. What's yours?

 

Thanks Truong. Those figures are much more realistic.

If it is a draw then shares (esp LICs or ETFs) would win the race because of the things Austing says above.

In addition shares can be sold in small lots to reduce CGT and aid in retirement income supplementation.

They are also easier to time - waiting for a rise to sell, waiting for a dip to buy etc.

Shares win the race for me, but property is still part of my strategy, and will remain so.

 

To be absolutely fair I must point out several things I didn’t include in my analysis:

- Considering I’ve included franking credits for shares (a tax issue) I should have included a tax deduction for the property CF loss. But I didn’t because it varies greatly according to one’s taxable income and could even be zero. In contrast franking credits are universally applicable.

- In similar fashion I could have included a tax deduction for depreciation but I resisted the idea because (1) it’s highly dependent on the particular property and (2) it will be clawed back at CGT time.

- You may have wondered why I did allow income to be reinvested for shares but not for property. Well, there isn't much on the property to be reinvested as its cumulative CF loss only disappears very late in the piece.

All the above would have lifted property a tiny bit but not enough to change the overall conclusion.

 

The equivalent of dividend reinvestment for property is setting up an offset account and putting surplus rent into the offset account, reducing interest and increasing the surplus over time. It would be interesting to see how that effects the comparison.

 

@truong Could you please share that excel file?

 

For a very conservative investor, also need to model the following scenario:

After year 6/7 borrow back up to 80%, using the equity to fund deposit + purchasing costs for another $500k property

See where it ends up at year 15.

That, is the true power of compounding.

 

Three points. First bear in mind that most shares are leveraged (ie the commonly you buy in has leverage). So you should likely be seeing a faster rate of growth in the value of shares over time cf property.

Second, remember that leverage may help property investors outperform stocks in a rising property market. But it might also help them underperform (or even wipe them out entirely) I a falling market.

Third, you need to deduct from the increase in the property a the many holding costs - repairs, council fees, interest on the loan, land tax, transaction fees.

 

Actually you can do the equivalent of these things if you are an activist investor.

 

Depends on the company. Also, when I renovate a property I have a predictable outcome. Trying to renovate a share through activism is unpredictable at best. You could be completely wasting your time and effort.

 

I think the mods better delete this thread, otherwise:

Everyone on PC will read it, put all put their properties up for sale at the same time flooding the market, property prices will crash, property will be become affordable => the 'whingers' will stop whinging.

Then everyone on PC will then put their money into shares all at the same time, shares prices will rise creating a bull market, shares will be become unaffordable => the 'whingers' will start whinging.

Then everyone on PC will sell their shares ...

We could be accused of manipulating the market, both markets .

 

There is a definite shift on this form to other asset classes. The realisation that Sydney & Melbourne are nearing or at peak, the inability to extend interest only periods or unable to refinance at higher assessment rates. The higher net income from shares/LIC/ETF is incredably attractive.

Hopefully it doesn't turn out like the Brisbane thread where you were still better off investing in Sydney!

 

Had a conversation with my mate last week and mentioned I started purchasing lic's. He said when property investors like yourself start buying shares, it's a clear sign to get out of the market, and a crash will come. Noticed the shift on the forum as well, maybe it is a sign lol.

 

Spent a bit of time this morning rejigging the spreadsheet to make it as close as possible to investment realities (if this is at all possible for a generic example! ). I’ve included in this new version:

- NG benefit: Tax deduction based on an assumed marginal tax rate of 37%
- Depreciation: Assumed initial depreciation allowance of $3000 decreasing by 7% every year, marginal tax rate 37%
- Full reinvestment of income
- A new column for Proceeds i.e equity minus selling costs
- View extended to 20 years
- Correction of an error (end of Year 1 property value)
- Buying cost for shares $100 (as though it matters!)

Looks like leveraged property is ahead of unleveraged shares… by not much though (about 1 year in investment length).


Here's the excel for whoever wants to play with it. Any comments welcome.

 

Great theory, but in practice, psychologically, it's much simpler holding onto property, paying the mortgage, sorting out the tax, taking calls from managing agents. Shares, it's having the mettle to hold every night after the financial news, being so liquid makes it much more of a temptation to sell some to fund that new car/holiday etc.

Property is a good way to start building wealth, long term, as knowledge and experience build other asset classes might be considered.

Nb, I diversified into shares, with borrowed equity and a margin loan 2006/7. Didn't end well and it was a lot less passive and more stressful (even while they were going up) than property.

 

This is where LICs etc come into play. You don't have to worry about the ups and downs of the share market everyday. Just let the managers take care of that. The management charges are really low too if you stick to the very long running ones.

 

Spot on tobe. Let's see how many can hold onto their shares when they have 1,2 or 5 million and it's dropping hourly/daily. Dividends are great but watching your net worth drop by the hour takes one with a special mind set or a massive set of balls to see it through.

 

I am more interested in ETFs like VAS and VHY than direct shares for this very reason.

 

I don't see why seeing my VAS drop by 30% would upset me more than seeing my IP drop by 30%. Whats the difference really? Oh yeah, VAS dividends stay around the same but my IP rent dropped from 440pw to 280pw.

 

psychological, you don't see your house dropping in price hourly or daily as a consistent reminder. Also the fact that you can still live in the investment property if you need. Regardless which investment it is, it's not easy to hold onto a falling asset.