Why I Prefer Stock Than Real Estate Property Investment?

Why I prefer stock than real estate property investment? Let’s look at table below for comparison:

  Stock Real Estate
Liability/Asset Needless to say, it an asset. Is a liability if it does not generate cash
Power of Leverage For experienced investor, you can make use of instruments such as Options, margin trading or CFD to magnify your return. Yes, because the additional money will be funded by the bank.
Commission Unless you are big time investor, the most you need to pay per trade is roughly about $15, or even less. Agent’s Fees + Legal Work + Stamping Duty(Depends on every country). Probably in the range of $10k-$20k or more.
Interest Rate charges No such thing, unless you are doing margin trading or CFD. Yes, and the rate fluctuates all the time.
Renovation cost No such thing Depends on how nice you want the property to look like.
Passive Income Yes, there are stocks that give regular dividend. You decide your own rental.
Make money during recession Yes, for experienced investor, you can use Options, Short sell to hedge your position and still make money even during downturn. Never.

Lets simplify the table:

  Liability Asset Leverage Commission Interest Charges Renovation Cost Passive Income Make money in recession
Stock No Yes Yes Low No No Yes Yes
Real Estate Yes Yes Yes Very High Yes Yes Yes No

I think there is no need for me to explain further. You get the point. =)

Should You Still Invest In Real Estate Property?

I don’t invest in real estate property simply because:

Property Is an illiquid Asset
It can take months to turn it into cash by selling it. To put up a sale, you have to spend time market your house, negotiate with the buyers, deal with the agent who will help you find new buyers, and find good lawyer who charge reasonably for legal transfer work. There are simply too much work. I would rather spend time researching for stocks investment.

If you do invest in one, what if you need money urgently for contingency use? Such as to pay for health care bills should you or your family members suffer a sudden serious illness? Then you will probably do a fire sale by selling your house at a discount.

So Should You Still Invest In Real Estate Property?

The only reason I will consider invest in real estate property is because it gives the power of leverage. Here’s how it works:

Let’s make the assumption below:

1. You only need to put down a 20% deposit of the the purchase price.
2. 2% fixed interest rate per year of the loan.
3. Exclude agent’s commission and lawyer’s fees.
4. The price of the property has gone up after 5 years.
5. There is no rental collected.

Price Of The Property = $200,000
Initial deposit (Your investment) = $40,000

Let’s assume the price of the property goes up to $300,000 after 5 years, and you sell the property for a decent profit.

Total Loan → $200,000 – $40,000 = $160,000
Interest of the Loan (5 years) → $160,000 x 2% x 5 = $16,000
Total Cost → $200,000 + $16,000 = $216,000

Profit → $300,000 – $216,000 = $84,000
Total Return of your $40,000 investment → $84,000/$40,000 * 100 = 210%
Average Annual Return → 210 divide by 5 years = 42%

Well that’s not too bad. But remember this is based on a 2% interest rate and we excluded the agent’s commission and lawyer’s fees. The rate of return is reduced when the rate and fees are increased.

However, remember:
1. There is no guarantee the price of the property will go up.
2. Interest rate fluctuates all the time.
3. There is no guarantee you can find tenant.

In my opinion, if you really want to invest in real estate property, consider below:

  1. Do this for second property investment.
  2. The property must be located in a very good strategic location.
  3. The condition of the property must be in good order.
  4. Buy when there is a significant price drop (recession is the best time to buy). Do make sure that you have a 100% secure job, so can still pay the loan if you cannot find any tenant!
  5. Take up the maximum loan period (30 years) and put as minimum deposit as possible. So use remaining cash and invest in stocks. Remember the power of compounding return!
  6. The loan package interest rate MUST be as low as possible (Do a comparison with all the banks).
  7. Rent out the property, use the rental income to pay for the monthly installment. Make sure the rental is high enough to cover the monthly installment & utility expenses. I would prefer a 50% buffer, because there will be times where tenant will move out and you need time to find a new tenant.

How To Estimate Monthly Installment?

Let’s use the example discussed above:

Price Of The Property = $200,000
Initial deposit (Your investment) = $40,000
Total Loan → $200,000 – $40,000 = $160,000
Interest of the Loan (30 years) → $160,000 x 2% x 30 = $96,000
Total Liability → $160,000 + $96,000 = $256,000
Monthly Installment → $256,000 divide by 30 years divide by 12 months = $711.11

The target rental rate should be at least $1066.

Remember, a real estate is a liability when it does not generate income.

Real Estate Property Investment Myth

I have heard a lot of my friends who believe by investing in real estate property make will them super rich.

Here’s their claims:
1. Properties prices will go up forever.
2. It gives them passive income.
3. In future they can sell it for higher prices and upgrade to a bigger house.

Let’s analyse how true those claims are.

1. Properties Prices Will Go Up Forever.

We have witness one of the greatest depression caused by the housing bubble in 2008 across countries in US and Europe. It happened in countries in south East Asia during the 1997-1998 Asia financial crises, during those times, people who bought those houses at the inflated prices, until today they are either in a loss position(negative equity) or manage to break even after the prices are slowly picking up. Prices might continue to go up, the question is how long will it take? 10 years? 20 years? Is it worth it?

2. It Gives Them Passive Income.
This is true if you have a second or more properties where it can fetch you good rental income.  And those rentals can be used to fund the housing loan, or give you additional money to spend. The reality is, if you need a bank loan to get a second property, you need to have good credit background. Or Else, you will have to find cash to fund your purchase. Also, you need to spend effort to manage your tenant and hope that they keep the house in good order. Else you need to spend extra money just for the maintenance when they move out.

3. Sell It For Higher Prices And Upgrade To A Bigger House.
If your plan is to sell the house at a higher price so you can use the profit to fund your purchase for a bigger house, you end up working for the bank because you will need to loan extra cash to pay for the bigger house!

Take the simple example below:

Small House = $200,000

Big House = $300,000

10 Years later, assume that prices gone up 50% for both houses.

Small House = $300,000

Big House = $450,000

$450,000 – $300,000 = $150,000 more needed to pay for the bigger house!

You will only make profit if you are downgrading to smaller house, and invest the profit to pay for your second property, and then use the rental income to pay for the mortgages. The question is, are you willing to downgrade?