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Making The Right Investment: Real Estate Vs. Stocks

Katie Ziraldo9-minute read

May 16, 2021

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There are many ways to grow your wealth. Investing in both stocks and real estate can allow you to earn passive income and save for your next big financial expense – and after the unpredictability and overall financial impact of COVID-19, these options, and the security they can provide, are increasingly appealing. If you’re ready to start investing, the first and most crucial step is determining which form of investment is right for you.

Overall, real estate is less volatile than stocks, whose value can rise or fall more quickly, which may mean real estate investments are more secure. But on the flip side, real estate is also less liquid than stocks, so it’s much easier to sell your stocks and gain access to your money than it is to do the same with your real estate investments.

Investing In Real Estate Vs. Stocks

The bottom line is both real estate and stock investments can be worth your while. Which option you should choose will ultimately depend on your budget, risk tolerance and financial goals. Both routes can help you in diversifying your income and increasing your wealth as they are both forms of passive income – that is, income that requires little or no effort to maintain.

When deciding whether to invest in real estate or stocks, the investor has several factors they must consider, including how much money they are looking to put down on their investment and how long they would like to wait before accessing their profits.

Investing in real estate requires significantly more cash upfront, as most mortgage lenders require borrowers to have at least a 15% down payment for investment properties. This means you should not pursue real estate investments unless you are already financially stable. In addition to the down payment, you will also need to budget for things like property maintenance and credit checks for potential tenants.

Investing in stocks requires significantly less time and money. But this trade off isn’t entirely free, as the stock market can change quickly and unexpectedly. Owning and operating your own property comes with a sense of control that the stock market cannot provide. This is because when you buy stocks, you are essentially buying a small piece of ownership in a company, which means any change in that company’s performance and perception could alter the value of your investment. But when you invest in the right stock, this route can be extremely profitable with little to no effort on the part of the investor.

So which option is best for you? Let’s break it down and take a look at the key differences between real estate and stock investments.

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Real Estate Vs. Stocks: Returns

One of the biggest factors to consider when deciding where to invest your money is the potential Return on Investment (ROI). In basic terms, ROI refers to the efficiency and/or profitability of an investment. This performance measure is used retroactively to determine the amount of return on an investment as it relates to the investment’s cost.

Although you can’t always accurately predict the return you will see on an investment, it is possible to compare the historical returns on these two types of investments to paint a picture of what you may face down the road with each option.

Still, when comparing stocks and real estate, it’s important to remember to look at factors beyond the market returns alone, as these types of investments are so vastly different that it is nearly impossible to get a clear picture of which is more profitable. Although historical data exists, various aspects such as geography and taxation will significantly affect the outcome.  

Real Estate Returns

The historical returns on real estate investments vary significantly based on the property type and location. But based on the National Council of Real Estate Investment Fiduciaries (NCREIF), the average return on a 25-year residential real estate investment was about 10.5% in 2019, while the return on commercial real estate properties was a bit lower at 9.4%.

Real estate also provides the benefit of a hedge against inflation – meaning it’s likely your property will maintain or increase in its value over time.

Stock Market Returns

In general, stocks tend to increase in value at a faster rate than real estate. When invested over a long period of time, total returns can easily grow to 10%, based on the S&P 500 Index. Historically, stock market returns offer lower ROI than real estate, but these returns can be difficult to predict due to the significant number of variables that affect individual stocks and the stock market in general.

Real Estate Vs. Stocks: Risks

Evaluating any investment means looking at both the pros (returns) and the cons (risks) that potential investors may encounter. Thorough research can be one of the best ways to protect yourself and your assets, so we’ve broken down the major risks of investing in both real estate and stocks.

Real Estate Risks

The biggest risk in real estate relates to the amount of time, research and money that goes into a successful investment. From choosing the right property, to making the right enhancements and finding the right tenants or buyers, there are many steps in the process that may affect the overall profitability of your investment. These are also long-term investments, so you won’t see the fruits of your labor quickly.

If you’re planning to buy and sell property, it’s important to note that successfully flipping a house requires a certain skill set. Without it, the costs of paying for labor can add up quickly and seriously take away from your returns down the road. If you’re planning to retain ownership of the property and earn your income through renters, you’re then faced with the long-term property management costs and responsibilities.

There is also always potential for a housing market crash, which means even if you do all the right things, you still may lose money.

Stock Market Risks

Stock market investing comes with its own unique set of risks, including the overall unknowns in the market. Stock values can be tremendously volatile due to economy cycles, inflations and fluctuations in the market.

Volatility can also be caused by the specific stock you’ve invested in. Remember that as an investor, you are a part owner of a company, and your stock performance will therefore be strongly impacted by the performance of said company.

For example, let’s say a company is performing well at the time you choose to invest, but faces a social controversy months later. Anything that impacts the image or performance of the company will also directly impact the value of your stock. A good rule of thumb to mitigate this risk is to diversify your holdings as much as possible. Instead of investing everything in one company, split your investments across several, so these types of dips in value will not impact your return as strongly.

Investing In Real Estate

Real estate investments come in many shapes and forms. While some investors may be quick to buy residential homes that they can flip or use as rental properties, others may be more interested in commercial real estate.

There are many ways to find investment properties, from searching listing boards to leveraging online real estate investing platforms. Regardless of how you find your investment, it’s important to understand the pros and cons of investing in real estate.

Benefits

There are many benefits of investing in real estate, including but not limited to:

  • Tax advantages: Real estate investment comes with the ability to deduct some of your expenses due to certain tax deductions, including property taxes and property management fees.
  • Long-term security: This is a long-term investment, which means the property will appreciate over time. But while you’re waiting for the value to increase, you can also earn extra monthly income by renting out the property.
  • Protection against inflation: When inflation causes the price of goods and services to rise, home values and rent typically also rise. This means you will have a rising monthly income through your investment property.
  • Control: As opposed to other, more volatile investments, investing in real estate puts most of the power in your hands. You are your own boss and you can have a direct impact on the outcome of your investment.

Drawbacks

Despite all of the advantages, there are also a few significant disadvantages to consider before investing in real estate, such as:

  • Heavy upfront costs: Paying for the down payment alone can be costly, and that’s before you take into account additional expenses including any necessary property repairs.
  • No liquidity: You can choose to liquify and withdraw your funds from the stock market at any time, but the same cannot be said with real estate. Because this is a long-term investment and you need to wait for the property to appreciate before realistically being able to sell it, you will not be able to access profits from your investment as quickly or easily as you would with other forms of investing.
  • Significantly more work than stocks: Whether you’re planning to renovate and resell a home, or manage the property as you rent it out, there’s no question that real estate investments require substantially more effort, which can sometimes mean both financial and emotional stress for the investor.

Investing In Stocks

At its core, investing in the stock market is rather simple, although there are several types of stock market investments to choose from, and knowing which option is the best can prove to be challenging for beginners.

Investors can opt to choose individual stocks on their own, work with experts through a brokerage firm, or through their employer’s 401(k). Each of these options come with their own advantages and disadvantages, but many beginners find success by starting slow and utilizing the expertise of professionals, whether that’s through a paid account or their own online research.

Benefits

When done correctly, investing in stock can be both simple and profitable. The benefits of this form of investment include:

  • Less expensive transactions: In addition to the lower upfront costs, your trading transactions will also be less expensive. Although opening a brokerage account is required to buy and sell stocks on the market, discount brokers often offer stock trading for little to no cost.
  • Diversification is simpler: Most average investors cannot afford to buy multiple real estate properties to diversify their investments, but with investing in stocks, this is much easier. Diversification is important because investing in a wide range of industries can help protect you from fluctuations in each individual stock’s performance.
  • More liquidity: With stocks, you can identify the value of your investment at any point, and more importantly, you also have control over exactly when you sell or trade to access your earnings.
  • Tax advantages for retirement accounts: Employer-sponsored retirement accounts such as individual retirement accounts or 401(k)s can allow you to grow your investment over time, often with tax-deferred or waived entirely.

Drawbacks

As with any investment, choosing to put money into the stock market also comes with some disadvantages that all potential investors must consider, such as:

  • Volatility: Stock prices can rise and fall very quickly. Although this can work in your favor, it can also easily work against you. This means even if a stock is performing well at the time of your investment, there are no guarantees that this will remain the case over time.
  • Taxes: Selling stocks may result in having to pay a capital gains tax. The magnitude of these taxes will depend on how long the stock was in your possession. If the asset is held for one year or less, the short-term capital gains tax is equal to your typical income tax rate – but if the asset is held for longer than a year, the long-term capital gains tax may be lower.
  • Risks can be stressful: The overall unknowns of the stock market can be difficult to stomach. It’s understandable to want to check the status of your investment but checking your stocks regularly can lead investors to make emotional decisions that may not pay off in the end.

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Consider Investing In REITs Instead

Real estate investment trusts (REITs) can be one of the simplest and most beneficial forms of investments, because they give you the ability to invest in real estate without dealing with the management or maintenance of the buildings. REITs are companies that own real estate, and when you invest in this fashion, you are purchasing a share of these properties.

There are two main ways to earn money through a REIT. The first is guaranteed: REITs make regular dividend payments to all investors. The second is variable: If the value of the REIT rises, you have the potential to sell your investment and make a profit.

Investing in REITs is rather simple and functions similarly to investing in stock, as REITs are listed on all major stock exchanges.

The Bottom Line: Real Estate Vs. Stocks

The fact remains that there is a profitable investment out there for every potential investor. But finding and capitalizing on that investment means doing extensive research, balancing the probable risks and rewards, and – at the end of the day – having the disposable income to fund your investment.

Both real estate and stock investments come with their own unique set of advantages and disadvantages and analyzing these before taking action can be one of the best ways to protect yourself from financial hardship. When analyzing your options, remember to consider your overall budget, risk tolerance level and long-term financial goals.

After all we’ve discussed, if real estate investing is right for you, we recommend getting started by buying the right investment property.

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Katie Ziraldo

Katie Ziraldo is a writer focused on financial learning for current and future homeowners. She found her love of writing through her experience working with various newspapers, such as the Detroit Free Press. Her financial literacy stems from her four years as a Recruiter, when she learned the details of every role in the mortgage process. As a writer, she uses that knowledge to create relevant content for homeowners to help them reach their goals.