Allthough it is difficult to make a general comparison between investing in the stock market and investing in real estate, because it always depends on which property and which company you would invest in. In this article, I would like to explain some general advantages and disadvantages of iinvesting in the stock market and investing in real estate.
First, a comparison will be made of the performance of a stock market index and a home price index over the long-term. Further advantages and disadvantages of each asset class will be mentioned.
Comparison of the performance of a stock market index and a home price index
To evaluate the stock market’s performance over a long period of time, we can look at the S&P 500 Index. Having a closer look over time at the S&P 500 Index, which represents the biggest 500 companies in the United States, demonstrates that you could expect an annual average return of about 10%, investing in those companies over the long term. The S&P 500 is weighted by market capitalization and is one of the most important stock indices in the world.
In order to evaluate the development of the real estate prices over time, we could have a closer look at the S&P CoreLogic Case-Shiller 20 City Composite Home Price Index. This Index seeks to measure the value of residential real estate in 20 major U.S. metropolitan areas, including the following cities: Atlanta, Boston, Charlotte, Chicago, Cleveland, Dallas, Denver, Detroit, Las Vegas, Los Angeles, Miami, Minneapolis, New York, Phoenix, Portland, San Diego, San Francisco, Seattle, Tampa and Washington, D.C.
The Index shows that home prices in the cities mentioned above have risen 7.41% annually on average over the last ten years, which is less then the performance of the broad stock market of annually 10% on average.
In the table below, you will find a comparison of the development of the S&P 500 stock market index and the S&P CoreLogic Case-Shiller Home Price Index from 2012 till 2020.
Development of the S&P 500 stock market index and the S&P CoreLogic Case-Shiller Home Price Index from 2012 till 2020
|
Year |
S&P 500 Stock Index |
S&P CoreLogic Case-Shiller 20 City Composite Home Price Index |
|
2020 |
18.40% |
10.01% |
|
2019 |
31.49% |
2.66% |
|
2018 |
-4.38% |
4.25% |
|
2017 |
21.83% |
6.46% |
|
2016 |
11.96% |
5.68% |
|
2015 |
1.38% |
5.45% |
|
2014 |
13.69% |
4.11% |
|
2013 |
32.39% |
13.44% |
|
2012 |
16.00% |
6.63% |
Sources:
https://www.slickcharts.com/sp500/returns
Advantages of real estate over the stock market
Real estate has the advantage over stocks in that its value tends to fluctuate relatively little (The table above shows that the S&P CoreLogic Case-Shiller Home Price Index has less variance and, therefore, less volatility than the S&P 500 Index). In addition, rental income tends to be more independent of economic crises and the world’s economy than the broad stock market. As long as residential and commercial space and buildable areas are limited, landlords often do not have to fear falling rents, even in times of recessions.
Advantages of the stock market over real estate
On the other hand, stocks also have some advantages over real estate:
One of the advantages of stocks over real estate is their liquidity. Stocks can usually be sold very quickly and you can turn them into cash, while with a property, it can take a long time before you can do the same (Please note, however, that usually you have to pay taxes when selling stocks as well as when selling real estate. These can vary depending on the country and the sale value).
A high investment amount is often necessary to buy a property and the high investment costs usually do not allow spreading over several real estate projects. However, you can invest with little money in stocks and easily spread your risk across different industries and countries, thereby building up a broad and diversified portfolio.
When investing in real estate, you have running costs, as they need maintenance, renovations and refurbishments can be necessary. Real estate requires constant work to maintain it. In addition, real estate is immovable, which means that it cannot be transported if necessary — if, for example, you need to move to another city because of a job change.
In addition, a property could lose value over time due to an economic (real estate) crisis. Additionally, it could lose value, if, for example, factories are built and dirt is generated in the surrounding areas as
a result.
In the following table, the two asset classes (real estate and stocks) are evaluated and presented in terms of various criteria such as independence from the economic crisis, investment amount, diversification, transaction costs, flexibility, expense, liquidity and the performance over time.
Comparison between investments in companies listed on the stock market and real estate investments
|
|
Real estate investments |
Investments in the stock market |
|
Independence |
Relatively independent of crises and the economy |
Dependence on |
|
Investment amount |
Usually large sums of money have to be invested |
You can already invest very small amounts of money |
|
Diversification |
Usually high investment costs do not allow spreading over several real estate objects |
It can be broadly diversified across different countries and different industries |
|
Transaction costs |
High transaction costs in the form of real estate transfer tax, notary fees and brokerage fees |
Minor transaction costs in the form of costs when buying or selling stocks |
|
Running costs |
Real estate requires maintenance and care |
In the case of stocks, the only running costs are the comparatively low custody fees |
|
Flexibility |
Inflexible because they cannot be transported |
High flexibility through location independence |
|
Expense |
The owner has to take care of the property: repairs, maintenance, rental, owners’ meetings |
Time spent evaluating and analyzing companies and following their business developments |
|
Liquidity |
It can take a long time before a property can be converted into cash |
Stocks can be turned into cash within a few days |
|
Performance |
The S&P CoreLogic Case-Shiller Home Price Index shows annual raising real estate prices of 7.41% on average |
S&P 500 Index shows an annual performance of about 10% on the US stock market on average over the long-term |
If you want to benefit from the advantages of investments in the stock market and real estate at the same time, it could be worth taking a closer look at REITS. Those Real Estate Investment Trust (REITS) are real estate companies listed on the stock market.
Summary: Investing in the stock market vs. Investing in real estate
As mentioned in the beginning, it is difficult to make a general comparison of the two asset classes. It always depends on which property and which company you would invest in. Nevertheless, due to the factors mentioned above, one asset class is more suitable for some and another asset class for others. Whether investments in companies listed on the stock market or in real estate are the better choice, it ultimately depends on each individual’s preferences and priorities and the individual’s corresponding life situation.
Sources:
