Which earns better returns: the stock market or real estate investments? And while we’re asking this grandiose question, which is the safer investment option?
You probably have an opinion already as to the answer to both of these questions. It’s good to have opinions about important questions. And these certainly are important—they directly affect your investment portfolio, retirement account, and more.
But opinions are never as useful as facts.
A team of economists from the University of California, Davis, the University of Bonn, and the German central bank, set out to answer these questions by analyzing a stunning amount of data collected over a 145-year period of time.
To better compare apples to apples, with each asset type, they adjusted for inflation and included all returns, not just appreciation. Dividend income was included for equities, and rental income was included for residential real estate.
Their findings, in short: Residential real estate was the better investment, averaging over 7 percent per annum. Equities weren’t far behind, at just under 7 percent.
Then came bonds and bills, each with a far lower rate of return (surprising to no one).
Returns on investments from 1870-2015
Rental income proved an important factor—roughly half of the returns on real estate investments came from rental income, while the other half came from appreciation.
Stock investments and investment property each performed differently in various countries, of course. Here’s a comparison of each of the 16 countries when considering real estate vs. stocks:
Keep in mind, these are long-term return averages over the course of many decades. In real time, these returns bounced up, down, sideways, and in circles.
From 1980-2015, the stock market, on average, performed significantly better than real estate investments. Across the 16 countries studied, stock investments earned an average annual rate of return of 10.7 percent, decisively beating the real estate market’s solid 6.4 percent.
Should we all sell our rental property and move our money into a Vanguard account? Of course not. But the reasons are multiple and a bit nuanced.
But the most interesting case for real estate investing lies in its risk-reward ratio.
Throughout modern history, residential real estate has actually boasted an extremely high rate of return with low risk. Take a look at volatility for real estate vs. stock for the past 145 years:
First, real estate investing is expensive. Until the past 10 years, with the advent of crowdfunding, you couldn’t invest your extra $100 a month in a tangible asset (unlike the negligible purchase price of some stock shares).
Even if you leverage to the hilt and borrow the maximum mortgage allowed at a low interest rate, that still usually puts you at 20 percent down payment, plus thousands of dollars in closing costs. Which says nothing of credit requirements, income requirements, and/or lenders’ requirements for investing experience.
In other words, real estate investing has a high barrier to entry.
It’s also difficult to diversify your investment portfolio for those very same reasons. If each asset requires $20,000 in cash to purchase it, then it takes a lot of money to build a broad, diverse real estate portfolio.
Investment property is also notoriously illiquid. You can’t buy it and sell it on a whim—it typically takes months to do either one.
Stocks may be a roller coaster, but in the long run, the good times outweigh the bad.
They also balance rental properties well. And when equities go down, residential real estate almost always goes up.
Real estate is illiquid compared to equities. You can buy and sell mutual funds, ETFs, etc. at a moment’s notice. Investment property isn’t quite so easy to get in and out of.
Stock investing also offers truly passive income. Ultimately, rental income can never be as passive as dividend income (even with property management handling general upkeep).
It’s much easier to diversify your investment portfolio with stocks, as well. You can spread $500 across thousands of companies, in every region of the world, in every industry, at every market cap. You’d be lucky to get away with only putting down $5,000 on a single rental property!
Residential real estate offers excellent returns with low volatility and huge tax advantages. I love rental properties. But that doesn’t mean there’s no place for equities in your portfolio.
If you invest well, rental real estate will start performing for you immediately. Equities will take longer; but the long-term returns will grow in value for you at prodigious rates.