In all likelihood, each one of us has already formed an opinion and an answer to this bold question. But of course, opinions are, almost always, neither the truth nor the hard facts. Since TERRA INTERNATIONAL REALTY has maintained a respectable position in the real estate industry, it is extremely necessary that every article involving statistical data and information are properly backed-up by respectable entities or institutions.
Based on an extensive study made by a team of economists from the University of California, the University of Bonn, and the German central bank, they came up with a stunning analysis from 145 years of economic data of leading authors who conducted the study (The Rate of Return on Everything, 1870-2015.). That research has reported a comparative study of returns on equities, residential real estate, short-term treasury bills and longer-term treasury bonds. The study included adjusted inflation rates, all returns, depreciation and appreciations, dividend income for equities and rental income for residential real estate.
In short, residential real estate had the best ROI at an average of 7%/annum, followed by Equities as the graph shows, then came bonds and bills with much lower returns.
Remember these are long-term averages and over many decades, there were some dramatic changes. By 1980-2015, equities performed better than real estate. Among the 16 countries studied, equities had an average annual return of 10.7% against real estate at 6.4%.
Does this mean we have to sell our real estate and buy stocks then? Of course not. First, only a few countries threw off the average returns from 1980-2015. Japan“s real estate markets collapsed due to its aging population. Germany has been in a slump for decades. Meanwhile, in Scandinavia, equities were on a rise. But, let us check the risk and volatility factor, which is a more interesting picture for an investor. And here is a quick look:
-Treasury bonds are low-risk, low -return and no one can challenge that truism
-Equities are high risk, high return. This is rather interesting since we saw how stock markets have performed for the last century. It“s up to 29% one year and down 18% the next year. This would erase the idea that equities are not risky and volatile type of investment.
That brings us back to the basic principles of economics that when the demand is low; prices go down as well. A higher demand will, naturally, bring prices up. But what if the demand was so great that it depletes the supply so fast. Therefore, the assumption is, if an asset is low-risk but high return, everybody will be going for it until it drains faster than flushing a toilet bowl. Luckily, that assumption doesn“t seem to be true for residential rental properties, which is low risk, high returns.
In recent years, residential real estate has maintained high returns with low risk, until the past ten years where real estate has become expensive. You just cannot invest $100 which you can do with buying stocks. Even if you can borrow or mortgage a property you still have to put up about 20% down plus some documentary costs and all that.
In other words, real estate investing has a stiffer requirement in terms of financing. It is also difficult to branch out to other investment scenario assuming that you need a $20,000 cash for every asset. Real estate is also illiquid, as you can“t buy it now and sell it tomorrow. It usually takes months to do either one. And that is also the reason why it is more stable than equities or stocks.
Those who did not like the look of real estate returns compared to stock returns for the past few decades should consider the Sharpe ratio which has grown stronger over time. Since 1950, this ratio had averaged an impressive .8%. It showed that the high bond yields of the 1980s were actually the problem itself, if you“ll look at bond returns over the past 145 years. There were more periods they earned negative returns. The following are a few reasons why rental properties are better investments than bonds:
-Bonds pay out for a specific period then stops paying. In other words, they expire.
-Rental properties keep paying indefinitely.
-Bonds become less valuable with their purchasing power due to inflation.
-Rental costs rise along with inflation.
-Fixed mortgage or borrowed money from banks goes down over time, until one day it“s all over while your rental cash flow keeps on multiplying.
TERRA INTERNATIONAL REALTY knows that this subject needs more space to really cover a big area left unexplored. Nonetheless, we feel that we were able to give would-be investors some significant insight about the difference between a real estate investment portfolio and buying stocks.
Founded in 1997 to provide independent brokerages with a powerful marketing and referral program for luxury listings, Terra International Realty network was designed to connect the finest independent Real Estate Companies to the most prestigious clientele in the world.
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John Scott
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b.quibina@terrainternationalrealty.com
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