Which is best property vs shares?
If you’ve got a lump of cash and you want to make it work for you most effectively should you buy a property or invest in shares?
If we just consider which one increases in value the most, then shares should win hands down.
That’s because according to Credit Suisse Global Investments Return Yearbook 2018 historic real returns are 1.8% for UK property, but 5.2% for global shares. (Those numbers are above inflation by the way).
But, before you rush out and stick all your money in the stock market you should know that buying property has a couple of major advantages that help to even out the playing field.
Income and mortgages
The first advantage with property is that you can let it out to paying tenants and generate income. Shares have this function too in the form of dividends but this has been accounted for in the numbers.
The 1.8% figure is the house price increase only. Any income you made from renting out a property would be added to that figure. That could easily add mid to high single digits to your overall return so it is definitely a major advantage.
And it isn’t the only one. The real advantage with any property purchase is that you can borrow money from the bank to help fund your investment.
Borrowing money actually turns out to be a massive advantage when investing over the long term. The saying, “Money makes money” is just about spot on in this situation. Not only do you get the increase in value on your money, you also get the increase on the bank’s money.
Let’s say you have £100 and it goes up 1.8% you make £1.80. However, if you borrow £300 from the bank so you’re getting 1.8% on £400 you’ll make £7.20. Borrowing money has turned your 1.8% return into a 7.2% return. It is a whole lot better than 1.8% and most importantly, higher than that 5.2% for shares.
In other words investment returns are higher for property vs shares when you take into account borrowing and rental costs!
That is, before we’ve taken account of costs.
You see a whole bunch of fees and expenses have to be taken into consideration when buying, selling, and maintaining property.
Fees to pay!
Just buying and selling houses costs a lot of money. Estate agents, solicitors, mortgage brokers, maintenance contractors, and banks all want paying.
One of the biggest outgoings is stamp duty when you buy and capital gains tax when you sell. Though stamp duty looks expensive when you pay it, if you keep your property for 25 years or more it is likely to seem pretty insignificant by the time you sell it.
Unfortunately, capital gains tax is always going to take a big chunk out of your profits. At the end of the day, the bigger it is the bigger the profit you’ve made, so it is not all bad.
As well as expenses for buying and selling properties, there are a pile of bills landlords must pay. Particularly the majority of expat landlords who are going to need a letting agent to manage the property for them.
These can include letting agent fees, insurance, service charges, ground rent, mortgage repayments, and maintenance fees.
Low cost ETFs
On the other hand, investing in the stock market using exchange traded funds (ETFs) is not nearly as expensive. In a world where lots of online brokers are offering commission free trades, free entry and exit fees and the like, the costs of buying and selling ETFs should be at the very least insignificant.
In fact, in many cases is will be just about non-existent. Furthermore, the great news is that expats don’t pay capital gains on shares and they are still entitled to an income tax personal allowance.
That means unless you have millions in the bank or are earning an income through other means, all income from dividends should fall within the personal allowance threshold.
This basically means you won’t usually have to pay tax as an expat. This leaves the Total Expense Ratio (TER) or Ongoing Charge Figure (OCF) as the key cost.
This is the estimated annual cost of owning an ETF and is automatically deducted from your holdings. The lowest ones I’ve ever encountered with my ETFs have been around 0.04% but most experts seem to agree that anything less than 0.3% is cheap. Personally, I don’t have anything that costs more than 0.25%.
The numbers
Deciding if you should purchase a property or buy shares isn’t straight forward. The advantage of getting a mortgage and renting the property out is reduced by all the fees you have to pay when buying, selling, and maintaining a property.
The question then, is simple. Are these fees enough to persuade you to put your money in the stock market rather than housing?
To help answer this question I’ve compared buying a house with a mortgage, to buying a house using the same amount of money without a mortgage and investing an equivalent amount in the stock market.
The table below compares buying a £200K house with a £50K deposit, buying a £50K house and investing the same amount of money in the stock market.
I’m assuming it costs £13,500 to buy/sell a house so that’s added to the £50k which means £63,500 is invested in the stock market. I’ve also assumed the Bank of England’s target of 2% for inflation.
200K Property with mortgage vs 50K property vs Shares
OK there’s a clear winner. According to my calculations you’d make £394,471 if you bought a BTL with a 75% mortgage, which is £117,446 more than the £277,025 you’d get from sticking your cash in the stock market.
That said, if you didn’t take out a mortgage you’d only make £137,11. On top of that if you didn’t let out the property you wouldn’t make as much as you would in the stock market no matter whether you took out a mortgage or not.
Have a look at this:
Bricks vs paper
Whilst it looks like property investing is a no-brainer there’s something else big to consider.
Whilst unlikely, it is possible that the housing market could crash or the interest rates on a mortgage could go up or you might not be able to find a tenant.
And here’s the thing. Any one of these could severely reduce your returns.
Crashes do happen
In fact, it’s not beyond the realms of possibility for all of them to occur at the same time. The worst cast scenario for putting money in the stock market is that we lose it all.
On the other hand, if we’ve got a property with a mortgage, the housing market crashed and we couldn’t find a tenant we’d be in bigger trouble. Not only could we potentially lose all our money, we could also be stuck with massive mortgage payments to cover.
To make matters worse judging by what happened in 2008 there is likely to be more of a chance that we could lose our jobs at the same time.
Though unlikely, if those things did all happen at once, it would take a heck of a lot of work to recover. So I think it goes without saying that not only should you not borrow more than you can afford, it would also be a good idea to have a back up plan in place.
This might include insurance or money in the bank to cover expenses and mortgage payments just in case you lose your job, can’t find a tenant or both.
Property vs shares – which one is better?
If your focus is purely on returns property probably makes sense.
If everything goes smoothly and you are careful, a buy to let with a mortgage will likely beat investing the same amount of money in the stock market.
On the other hand, investing in the stock market has a good chance of beating all other scenarios with less work on your behalf.