Don't buy a house. Buy shares. $20,000 to $7,400,000 in 30 years

[ROE]

I think if we take a look at this situation from now over the next thirty years we might get a different picture.

$20k is maybe a deposit on a median Oz house (Median $350k?). Would have to borrow $330k plus costs so back up to $350k. At 8.5% (best loan rate) have interest costs of $572 per week. Definitely NOT going to get that in median rent ($350 per week?). So it would cost you $220 per week to own the house ($11k per year). Assuming 8% average capital growth gives $28k growth or $17k net growth in capital position.

On the other hand if you put $20k into solid blue chips (CBA, BHP, Westfield, others??) now and leveraged 50% (conservative) with a margin loan as well, giving $40k total) where would that put you? Assume 12% capital growth plus 5% dividends, gives 17%, or $6.8k capital growth.

From this it looks pretty clear that property will always beat shares if you are looking at buy and hold type strategy with blue chips vs median type houses. Of course, moving away from that into speculation will change things as there are few property deals that will get you a multibagger in the short space of time that spec shares can, or alternatively few properties that will self destruct and lose all their value

Dont assume anything, just invest with the money you have and debt free and it turns into a snowball .... it fun to calculate but at the end of the day you are predicting the future so don't assume anything

I assume 4% yield and 7% capital appreciation but that just something I aim for I don't actually expect it to go that way and

then again it doesn't matter cos I ain't got no debt so aren't worry about income to pay the bank

 

[lakemac]

Rather than guess, lets do a spreadsheet.

First some base figures:

For real estate -
House price = $330,000
LVR = 90%
Therefore deposit = 10% of 330k = $33,000
Transaction or sunk costs = $10,000
Total cash required = $33,000 + $10,000 = $43,000
Total borrowed = 330,000 - 33,000 = $297,000
House starting asset value = $330,000

Income:
weekly rent @ asset value / 100,000 = $330,000 / 1000 = $330 pw
rent will go up each year as asset value goes up.
allow 2 weeks vacancy per year

Expenses:
Loan interest @ 8% Interest only on borrowed funds
Other costs @ 12% of rent (agents fees, land tax etc)
When expenses are higher than income this must be made up from other income sources - see note in share comparison.

Growth in house prices = 7% over 10 years


Now for shares -
Same investment = $43,000
We buy only Top 30 above $10/share and equal # of shares in each
So we might have a total of 15 companies that meet the criteria
Thus we have 15 lots of brokerage @ $20 per buy order < $10k
Brokerage = $300 and say another $700 for charting program.
Say average price is $15/share
Investable funds = $43,000 - $1,000 costs = $42,000
Margin loan = 50%
Total borrowed = $42,000
Share starting asset value = $42,000 + $42,000 = $84,000

Income:
Dividends = 4% of portfolio value

Expenses:
Internet service and data = $2,000 per year
Where expenses are greater than income this must be made up from another income source, however, because real estate investors have to put in quite a bit of top up from other income sources we will assume that the share investor puts in the same amount and invests that with a 50% margin loan.

Growth in share prices = 15% over 10 years

 

[lakemac]

Now lets compare:

House asset value growth over next 15 years @ 7% PA:

year       asset  rent/yr  int/yr   costs    tot exp    P/(L)   topup   cap gain    CGT  After tax  Cum P/(L) Nett$
0 	330,000 	16,500 	23,760 	1,980 	25,740 	-9,240 	9,240 	-10,000 			-9,240 	-9,240 
1 	353,100 	17,655 	23,760 	2,119 	25,879 	-8,224 	8,224 	13,100 	2,948 	10,153 	-17,464 	-7,311 
2 	377,817 	18,891 	23,760 	2,267 	26,027 	-7,136 	7,136 	37,817 	8,509 	29,308 	-24,600 	4,709 
3 	404,264 	20,213 	23,760 	2,426 	26,186 	-5,972 	5,972 	64,264 	14,459 	49,805 	-30,572 	19,233 
4 	432,563 	21,628 	23,760 	2,595 	26,355 	-4,727 	4,727 	92,563 	20,827 	71,736 	-35,299 	36,437 
5 	462,842 	23,142 	23,760 	2,777 	26,537 	-3,395 	3,395 	122,842 	27,639 	95,203 	-38,694 	56,508 
6 	495,241 	24,762 	23,760 	2,971 	26,731 	-1,969 	1,969 	155,241 	34,929 	120,312 	-40,664 	79,648 
7 	529,908 	26,495 	23,760 	3,179 	26,939 	-444 	444 	189,908 	42,729 	147,179 	-41,108 	106,071 
8 	567,001 	28,350 	23,760 	3,402 	27,162 	1,188 	0 	227,001 	51,075 	175,926 	-39,920 	136,007 
9 	606,692 	30,335 	23,760 	3,640 	27,400 	2,934 	0 	266,692 	60,006 	206,686 	-36,985 	169,701 
10 	649,160 	32,458 	23,760 	3,895 	27,655 	4,803 	0 	309,160 	69,561 	239,599 	-32,182 	207,417 
11 	694,601 	34,730 	23,760 	4,168 	27,928 	6,802 	0 	354,601 	79,785 	274,816 	-25,380 	249,436 
12 	743,223 	37,161 	23,760 	4,459 	28,219 	8,942 	0 	403,223 	90,725 	312,498 	-16,438 	296,060 
13 	795,249 	39,762 	23,760 	4,771 	28,531 	11,231 	0 	455,249 	102,431 	352,818 	-5,207 	347,611 
14 	850,916 	42,546 	23,760 	5,105 	28,865 	13,680 	0 	510,916 	114,956 	395,960 	8,473 	404,434 
15 	910,480 	45,524 	23,760 	5,463 	29,223 	16,301 	0 	570,480 	128,358 	442,122 	24,775 	466,897

So after 10 years in real estate you would have $207,417 profit after all expenses
At 15 years you have $466,897...

Thats not bad, but what about shares...

 

[lakemac]

Here are the values for shares growing at 15% average annual growth.

To be fair to the share investors the additional topup amounts that real estate investors have to put in to cover their expenses is invested (less share investor costs) and dividends are also reinvested. Both of course are margin loaned at 50% so here are the figures:

year       asset  div/yr  int/yr   costs    tot exp    P/(L)   topup   cap gain    CGT  After tax  Cum P/(L) Nett$
0 	84,000 	3,360 	3,360 	2,000 	5,360 	-2,000 	7,240 	0 			-2,000 	-2,000 
1 	113,252 	4,530 	3,939 	2,060 	5,999 	-1,469 	6,754 	14,772 	3,324 	11,448 	-3,469 	7,979 
2 	145,775 	5,831 	4,480 	2,122 	6,601 	-770 	6,366 	33,786 	7,602 	26,184 	-4,239 	21,945 
3 	182,282 	7,291 	4,989 	2,185 	7,174 	117 	6,089 	57,562 	12,951 	44,611 	-4,122 	40,488 
4 	223,630 	8,945 	5,476 	2,251 	7,727 	1,218 	5,945 	86,731 	19,515 	67,217 	-2,904 	64,313 
5 	270,850 	10,834 	5,952 	2,319 	8,270 	2,564 	5,959 	122,060 	27,463 	94,596 	-340 	94,256 
6 	325,182 	13,007 	6,428 	2,388 	8,816 	4,191 	6,160 	164,475 	37,007 	127,468 	3,851 	131,318 
7 	388,128 	15,525 	6,921 	2,460 	9,381 	6,144 	6,588 	215,100 	48,398 	166,703 	9,995 	176,697 
8 	461,501 	18,460 	7,448 	2,534 	9,982 	8,478 	8,478 	275,296 	61,942 	213,354 	18,473 	231,827 
9 	550,226 	22,009 	8,126 	2,610 	10,736 	11,273 	11,273 	347,064 	78,089 	268,975 	29,746 	298,721 
10 	658,688 	26,348 	9,028 	2,688 	11,716 	14,631 	14,631 	432,980 	97,421 	335,560 	44,377 	379,937 
11 	791,143 	31,646 	10,199 	2,768 	12,967 	18,678 	18,678 	536,173 	120,639 	415,534 	63,056 	478,590 
12 	952,775 	38,111 	11,693 	2,852 	14,545 	23,566 	23,566 	660,448 	148,601 	511,847 	86,622 	598,469 
13     1,149,894 	45,996 	13,578 	2,937 	16,515 	29,480 	29,480 	810,434 	182,348 	628,086 	116,103 	744,189 
14     1,390,182 	55,607 	15,937 	3,025 	18,962 	36,645 	36,645 	991,762 	223,146 	768,615 	152,748 	921,363 
15     1,682,994 	67,320 	18,868 	3,116 	21,984 	45,335 	45,335 1,211,283 	272,539 	938,744 	198,083 1,136,827

So 10 years in the share market gives us a nett gain of $379,937
That compares to the real estate gain of $207,417
The share market has given us an extra $172,520

After 15 years the difference is even bigger:
Stock market nett gain = $1,136,827
Real estate nett gain = $466,897
A whopping advantage to the share market of $669,931

But that's not all...

 

[lakemac]

The real advantage of shares comes in retirement.

What is the advantage of shares over real estate?
You can sell a small part the portfolio if you need to draw it down.

With real estate you have to sell it all at once.
And pay Capital Gains Tax (CGT) all at once.

For example in our calcs after 15 years you sell the house and you pay $128,358 in tax and this is the killer - at the top marginal rate (why because the gain is so high you are way into the top bracket).
So now you are left with $466,897 with which to live on (maybe you should invest it in shares???)

For the share portfolio you only have to sell what you need at the time, in little chunks. So two things work in your favour:
1. your tax will be at a much lower marginal rate (say 30c in the dollar)
2. you still have $1.68M of asset (less what bit you sold) working away for you. You have deferred the tax bill...

So for real estate the tax man grabs his chunk and you then don't have it working for you.

With shares only that which you need to draw on is taxed, the tax man is still waiting for the rest. Whilst he is waiting it is earning you dividends and increasing in value...

By the way, although I have checked my figures it is worthwhile double checking them in case I have mis-calculated.

So that's why I don't invest in property.

There is a caveat in all this.
For those of you who have read Steve McKnight's books and have worked out how his system *really* worked (the trick is in the infusion of OPM - other people's money) then in a fast rising property market the purchase of real estate can out do investing in the stock market.

To make that work you have to be good at selling the houses quickly. And spending a lot of time looking for real estate to buy as well as dealing with banks etc etc.

Personally I like to keep my weekends to myself and spend time with my family. Similarly spending money on pest inspections legals etc for properties that I may not buy is also a cash drain. Rather I prefer to sit at my laptop and click a buttons now and then...

 

[lakemac]

And as a closing thought, the share investor has spent 10 - 15 years being familiar with stocks and how they all work.

Is the real estate investor, now that they have sold their house and sitting on a pile of cash going to know how to invest in the share market?

The prosecution rests your honour

 

[2BAD4U]

I object your honour.

The interest on your property is tax deductible, as well as management fees and all other expenses.

Then there is depreciation of both the property and the fixtures.

Your calculations are a bit too simple.

You may now cross examine.

 

[lakemac]

I agree about the deductability of those costs, as are the costs of running a share portfolio.

Even if you account for those (eg depreciation, etc) the real estate figures are still nowhere near the share figures - we are talking a two to three times the magnitude in difference.

I do have a more exact spreadsheet which also includes the effect of inflation on rents, land tax, etc etc etc as well as using trusts, corporate beneficiaries etc etc.

What I am showing here is a trade off between complexity and ease of understanding.

May I suggest you provide counter evidence that a property investment including depreciation and tax deductibliity out performs an equivalent share portfolio.

And how would you then manage the drawn/retirement phase?

 

[So_Cynical]

Your calculations are a bit too simple.

yep agree...and very sorta average.

The last house i sold, i owned for 7 years and made approx 160% on it, the one before
it, i had for 4 years and just broke even...got them both at the same time and they were
physically about 500 meters apart.

Shares can be the same...or much worse/better...timing and dumb luck/good choices, and
the crap that life throws at u...play a big part in all outcomes

Growth in house prices = 7% over 10 years
Growth in share prices = 15% over 10 years

Not always...there's alot of variables.

 

[2BAD4U]

You can't make it that simple. Your income tax bracket has a major impact on how you invest.

As for how you manage the retirement phase, you assume that people would have to sell their investment property. However, what if, as the property grew in value you use that equity to purchase another property, and then another, etc, etc. The object of buying investment properties is to have enough that they provide an income and you never sell them.

The other flaw in comparing with shares is your 15% growth and 4% dividend. Generally a low paying dividend share will grow faster than a high dividend paying share. Because you are buying equal number of shares in each company, it is quite possible your portfolio would be biased in one direction or the other (dividends v's growth).

Finally, what happens during a crash and you get a margin call? If you have properties that are positively geared, then it doesn't matter if values fall.

I am not saying that property is better than shares, but as I said, your calculations are too simple for such a complex issue.

 

[lakemac]

yep agree...and very sorta average.

The last house i sold, i owned for 7 years and made approx 160% on it, the one before
it, i had for 4 years and just broke even...got them both at the same time and they were
physically about 500 meters apart.

Ok so lets have some detailed numbers - easy to say you made 160% on it. Back it up with hard numbers.

I have several set of figures on several real estate investors which I can post. I do agree that you can be lucky - 160% gain is 60% above the norm (usual is to double at 7 years). But is that gain after tax?

Please if you are saying my figures are simplistic I throw the challenge down to those who mock them to prove otherwise with at least as much detail and explain where my assumptions are wrong.

 

[2BAD4U]

Paid 90k - 115k - 5 yrs - 28%
Paid 125k - 180k - 2 yrs - 44%
Paid 260k - 660k - 5 yrs - 154%
Paid 230k - 360k - 3 yrs - 56% (Haven't sold)
Paid 360k - 380k - 1.5 yrs - 5.5% (Haven't sold)

Don't start talking real returns, inflation, etc, etc. These are raw numbers and do not include tax, depreciation, rent, etc.

 

[lakemac]

Let me explain the dividend vs growth issue.

As I mentioned in my base figures you only buy shares in the top 30 stocks that are currently above $10 per share. The reason you buy equal numbers rather than equal value has to do with optimising the overall return over time. You don't care about the difference between share growth and dividend rates. You are only interested in overall performance.

How does tax bracket impact the decision to invest in shares vs property?
If you take someone with enough income to invest then most would be in the 30c tax bracket anyway.

There is a flaw in the figures - just realised I had not taken out tax on the profit figures each year. It changes the share portfolio value from $1.68M to $1.50M at the end of 15 years and the nett figure from $1.13M to $1.07M.

Margin calls - there are two ways to handle those and a lot depends upon how long you have had the margin loan. Simple way is to sell down the portfolio. You also have to remember that real estate has similar issues - vacancy rates are one, bad tennants are another. Right now an associate of mine is having a "margin call" on his property as his previous tennant trashed the place and he has no rent coming in - probably for 6 weeks. Both asset classes have their risks.

Again I put the challenge out there for someone to run hard numbers up against mine. Until we see that everything else is just hot air.

 

[lakemac]

Paid 90k - 115k - 5 yrs - 28%
Paid 125k - 180k - 2 yrs - 44%
Paid 260k - 660k - 5 yrs - 154%
Paid 230k - 360k - 3 yrs - 56% (Haven't sold)
Paid 360k - 380k - 1.5 yrs - 5.5% (Haven't sold)

Don't start talking real returns, inflation, etc, etc. These are raw numbers and do not include tax, depreciation, rent, etc.

Thanks 2BAD4U.
Those real returns are what makes the difference IMHO.

Don't take this the wrong way either - if you can convince me that real estate makes a better investment I am always open to new ideas.

That is why I throw these figures down to get real examples on the page.

If you could be more specific using the same approach I did then a true comparison can be made, particularly the effect of CGT on your gains. That must hurt

 

[So_Cynical]

160% gain is 60% above the norm (usual is to double at 7 years). But is that gain after tax?

Ok forgot to take out the CGT but then didn't include the rent and tax benefits (negative gearing)
in the 160%...anyway they would approximately cancel out each other.

I would think that potentially the share market can do better than property but not with
simplistic, passive strategy's...i got a mate at work with a big, single, blue chip share
portfolio, sitting on big loses 200K...and he don't even have a broking account.

 

[hotbmw]

lakemac, can u post your excel spreadsheet on here for us to download please. or pm me. i want to adopt this and implement my possible long term scenario.
thanks in advance
Robi

 

[lakemac]

lakemac, can u post your excel spreadsheet on here for us to download please. or pm me. i want to adopt this and implement my possible long term scenario.
thanks in advance
Robi

do we have way of doing that?
Does someone know how?

Worst case PM me with your email and I will send it direct.

 

[lakemac]

Ok forgot to take out the CGT but then didn't include the rent and tax benefits (negative gearing)
in the 160%...anyway they would approximately cancel out each other.

I would think that potentially the share market can do better than property but not with
simplistic, passive strategy's...i got a mate at work with a big, single, blue chip share
portfolio, sitting on big loses 200K...and he don't even have a broking account.

Only 200K? mine is worse (by a tad) but there again I have two things going for me - shares bought below even their current price and an options portfolio that is cushioning the blow.

When you say single blue chip do you mean just one stock?
And I assume he must have bought in the market late in the game (sort of like the real estate investors with "negative equity maaate"...).
I am interested (as would others be I am sure) as to some details - when he bought, what he bought and why he bought.

If you can spare the time So_Cynical I would love you to post more detail on the transactions, cash flows etc. It will make a big difference to those still learning as well as those with more calcified views

 

[2BAD4U]

I don't want to convince you that real estate is better than shares (I have both), all I am saying is property investment is a lot more complex than shares are and simple calculations can't be used. When I purchased my first property I didn't think I could do it. I got some PROFESSIONAL advice and restructured my finances and I haven't looked back since. Sometimes you need to think outside the square (or have someone do it for you) to get started.

You need to include your tax bracket for the purpose of working out your negative gearing and depreciation or if you are postively geared, how much tax you will pay on the rental income.

Depreciation is affected by the year the house was built, CGT is affected by when you purchased the property. Also, how your loans are structured has an effect. Interest only, P & I, investment loan, equity loan, etc. Do may a favour and rerun your sums with a P & I loan, I would be interested to see the difference (if any).

Finally, what happens if in a few years time your property is rezoned and you can develop the site. Do you or don't you?

I run about 4 spreadsheets and a dedicated property investment program to track my properties and still can't be exact.

 

[lakemac]

I don't want to convince you that real estate is better than shares (I have both), all I am saying is property investment is a lot more complex than shares are and simple calculations can't be used. When I purchased my first property I didn't think I could do it. I got some PROFESSIONAL advice and restructured my finances and I haven't looked back since. Sometimes you need to think outside the square (or have someone do it for you) to get started.

You need to include your tax bracket for the purpose of working out your negative gearing and depreciation or if you are postively geared, how much tax you will pay on the rental income.

Depreciation is affected by the year the house was built, CGT is affected by when you purchased the property. Also, how your loans are structured has an effect. Interest only, P & I, investment loan, equity loan, etc. Do may a favour and rerun your sums with a P & I loan, I would be interested to see the difference (if any).

Finally, what happens if in a few years time your property is rezoned and you can develop the site. Do you or don't you?

I run about 4 spreadsheets and a dedicated property investment program to track my properties and still can't be exact.

I will plug in some P&I figures when I get some time. Got to sleep...
Also will add in some tax bracket analysis including neg gearing etc.
As you say it becomes complex.

Development is for hardend property people - too much hard work IMHO. Watched a couple of friends do development rezoning work - headache city. But it does make a good return I agree.