This is a very good question, one that investors must make on a daily basis. Both are well-known investment vehicles and both have unique risks and rewards. All things considered, I believe real estate is, hands down, the better of the two. Before investing in real estate however, you must ask yourself the all-important question, am I suited to a real estate investment portfolio? Let’s look at the challenges and risks of real estate first and see if you might be well suited for real estate investing. Then we will turn to the lucrative rewards.
While real estate has proven over the long term to provide better returns on investment, it requires much more hands-on involvement than stocks. Your shares in XYZ Corporation will never require you to go down on a Sunday and repair some broken pipes but your real estate asset will. As well, you will have to negotiate leases and deal with tenant issues. If you are not prepared to spend that time, real estate may not be your best investment.
As well, real estate is a get rich slow scheme. Sure there are booms from time to time but buying into real estate with a get rich quick attitude is a recipe for trouble. Finally, real estate generally involves significant amounts of leverage, in other words, a mortgage. Mortgage financing is a double-edged sword; if you borrow too much you run the risk of losing your
investment in a downturn. If you can accept these risks then let’s see what rewards lie in wait. The pleasant surprise is that the potential risks are also the potential rewards.
So if you’re prepared to put in the time fixing pipes and handling tenant issues, you will be richly rewarded over the years. With stock investments, someone else is managing your investment for you and you have no say in the matter. Managing your own assets ensures that no shenanigans are played with your money. The added bonus is that, as you accumulate additional properties you will hit the point where you can hire a professional management firm to handle many of the day to day duties if you choose.
The second challenge, the fact that real estate is a get rich slow scheme, is also a big benefit because, unlike the lottery, you will get rich for sure. It just requires patience, planning and trust, but you will get there. Real estate returns start out slowly but as you pay off your mortgage and inflation raises rents, your returns slowly gain traction. Then one fine day you realize you have enough equity to purchase another property, and then another, and the returns really start to grow. From time to time stocks can go through the roof but the odds of finding that huge winner are pretty slim. As well, if the stock goes down, you can lose everything. With real estate, you always have the physical asset so you can re-build quickly when the market returns.
The final challenge, that of mortgage financing, is probably the biggest reward. The more money you borrow, the greater your potential rate of return, but of course the greater risk also. The good news is that the risks of mortgage payments can be readily mitigated with a little business planning. Run a few worst-case scenarios with different levels of financing and find the one that you can manage. In other words, find the amount of money you can borrow and still make it through the tough cash flow periods if there is a market downturn. A good commercial REALTOR can help you run these scenarios with reasonable assumptions. Another big bonus is that, while inflation increases your rental income, your mortgage payments don’t go up other than with fluctuations in interest rate, but that can also bring them down. Once you find that magic amount of leverage where you feel you have a comfortable balance between risk and reward (and this is different for everyone), take that magic step and buy your first property. You won’t ever look back.
GERALD TOSTOWARYK | CCIM, FRI, CLO | ASSOCIATE BROKER | CENTURY 21 URBAN REALTY | 780.887.3709