Property purchase vs Investing in stock/bonds/cash etc

[JuicyCrab]

Hey guys,

I'm a 28 y/o Aussie business owner starting out my own journey towards wealth and FI. Property is a big topic here in Australia due to the recent boom in prices experienced in the last 5-10 years that have many baby boomers sitting on a nice pile of equity. As with most journeys to wealth, starting in the right direction with the right strategy from day 1 its pretty darn important.

So my question to the more experienced in long term wealth and investment strategies, why would you choose to invest your wealth in property over investing in stocks,bonds,REIT's and other forms of more liquid assets and renting?

I ran 3 different simulations over a 15 year period and then a 30 year period.

Option 1:
Purchase a $490,000 property with a 20% deposit, live in it and pay it off aggressively in 15 years. Property increases annually at an average of 3% and the loan is charged at 3.89%. You pay no rent but incur the cost of owning a property.

Option 2:
Continue to rent (Australian rental prices in my state are historically currently quite low, you get a great house for a reasonable price), take your 20% house deposit, invest it then continue investing the payments you typically would be making in option 1 into other asset classes averaging a 7% return.

Option 3:
Continue to rent and purchase an investment property! Pay it off in the same way as in option 1 but you now receive income from rent (assume a 100% occupancy rate) and some tax breaks for the initial losses inured on your new income producing asset.

Now at the 15 year mark on each simulation, option 2 came out with the greatest net worth. So you're probably thinking yeah yeah go to 30 years as now you're not paying a mortgage. I did just that, stopping all mortgage payments, and stopping all additional investment additions for option 2 (as at this stage you could be investing in all 3 scenarios). Basically sitting on the net worth accumulated at year 15 for an additional 15 years.

Some assumptions were needed in each set of calculations, but I tried to keep it as realistic and as fair as possible as to not bias one or the other

Net worth at year 15
Option 1
 $420,203.97    
Option 2
 $988,100.00    
Option 3
 $533,303.97

Net worth at year 30
Option 1
$896,536.99
Option 2
$3,182,100.00
Option 3
$1,183,722.82

What am I missing here? As a young adult I just cannot see the wealth benefit of property unless the property does some crazy 10-20% jump in prices for a few years. I'm not experienced with property so predicting this would be blind guesswork for myself.

I'd love to hear everyone's opinions on this as its something a lot of friends my age are also dumb founded on.

Thanks a lot!        

[hodor]

There is plenty to say on these topics and many different opinions.

You have made some assumptions that give property a hard time to competing (3% pa growth) many markets have done much better over the past 10 years, some have done worse.
Interest rates will change in the short term, who knows where they will be in 10 or 20 years.
What assumptions have you made about the cost of rent and your wage in the future?
How good are you at saving? Property is often successful as it makes people prioritise repayments (forced savings) people in general are more likely to miss a payment to a savings account to buy shares.
The point I am making is no one knows the future for sure and all these things are complex. Whatever your models show there could be events that throw things way out.

To answer your question, why property over shares etc?

The major advantage of property investment is the ease to obtain cheap finance without the risk of a margin call (OK technically it is there, just much much smaller). This allows you to obtain a large asset base "cheaply" with little upfront. Remember leverage is a double edged sword, it amplifies both gains and losses.

Many people in Australia also feel a strong emotional pull to own their own place.

You can leverage off your property into the share market (not very mustachian)

You need to work out what is important to you, either can work out great. Contrary to popular belief by many, the share market it probably easier and less maintenance, buy an ETF and forget about it.

I invest in both property and shares.

[steveo]

I'm Australian. We bought our house about 7 years ago for $770k. It's now worth about $1.4 million. I don't think that this is that uncommon.  Your figures in some ways could be wrong if you get the kind of growth that we have been lucky enough to obtain.

Personally I cannot see myself ever investing in an investment property in Australia simply because it's too costly and the yield is so low. I think purchasing your own property to live in for life makes some sense because you have a hedge against rising house prices and rising rents.

At the same time I think that investing money and renting may work out the best. This is how I feel and it's not based on an objective assessment of the situation so take it for what it is worth.

[JuicyCrab]

Thanks guys I appreciate the level headed responses. It's sounding like both investment direction CAN work, but there are lifestyle and other personal factors that make people gravitate towards either one.

I completely agree with the 'forced savings' principle of owning a mortgage. I know a lot of older folk (my parents for example) who are not great savers/consume a lot but have a lot of equity simply because they had to make payments.

Regrettably, I had a savings rate of 0% for my first 4 years of work out of university. Since becoming self employed, I was lucky enough to stumble across MMM from a Tim Ferriss blog post of all things. I'm now setting NW goals, portfolio % allocations and hitting between  50% to 60% saving rate depending on how business has been that week. Honestly MMM and reading what others are doing on this forum has been an absolute game changer for the financial aspect of my life :).

[Shor]

I think there is a presumption that the same rent rate continues for the next 30 years. In 1986, were the rent rates the same as today? Nope (omg imagine the rent margins if it were, wow!), Owning a home removes rental market forces from impacting your living location, but shifts maintenance costs on to you. Owning a rental investment allows you to take part in a rent increase. Renting has you rely completely on the rent staying low (comparatively).

I'm not sure what your rent rate is, but your situation sounds very similar to how it is over in S California where rent is fairly affordable, and housing is more on the expensive side. I would say the highest risks to balance out in this decision is determining are housing prices just really high? Or is it far more likely that rent rates will go up in the future?

I personally am leaning that the latter is far more likely. Naturally, your take about your own area might very well be different.

[chasingthegoodlife]

Here is an old article from The Age's David Potts that you might find interesting: http://www.domain.com.au/news/property-v-shares-20100814-123xi/

The study he quotes found minimal difference between prop and share investments over the last 20 years (up to 2010), with shares slightly ahead esp for those in a lower tax bracket.

Personally, I strongly favor owning your own PPOR for security reasons. Knowing I will never have to move unexpectly or face a massive surge in my expenses when my neighbourhood becomes the next big thing is valuable to me, and this has been influenced by seeing a lot of older people in housing stress from rising rents. You really don't want to be packing boxes in your 70s unnecessarily.

(I have both share and property investments)

[hodor]

Here is an old article from The Age's David Potts that you might find interesting: http://www.domain.com.au/news/property-v-shares-20100814-123xi/

The study he quotes found minimal difference between prop and share investments over the last 20 years (up to 2010), with shares slightly ahead esp for those in a lower tax bracket.

Personally, I strongly favor owning your own PPOR for security reasons. Knowing I will never have to move unexpectly or face a massive surge in my expenses when my neighbourhood becomes the next big thing is valuable to me, and this has been influenced by seeing a lot of older people in housing stress from rising rents. You really don't want to be packing boxes in your 70s unnecessarily.

(I have both share and property investments)

Interesting article.

Terrible stock advice/logic in the article;
"Even Treasury is forecasting commodity prices will slip next year"
Yet the article promotes a portfolio heavy in resources, given he believes the above why promote resources?

The rest of the predictions proved so far off it is not funny.

The point is a diversified portfolio (such as from ETFs) is the surest way to ensure long term success.

[nobodyspecial]

It does assume you have a "big pot of money" that you can use to buy a house OR buy stocks
Not that you only have the money for a deposit an are going to have someone else paying the mortgage on your new place for you.

[Jim2001]

My RE investments have outperformed my equities, BUT that comes with huge caveats, many of which have been touched on by other folks. The requirement to make the monthly payment that just isn't there with a stock account likely made a tremendous difference.  I have also given in to the temptation to try to "pick" the next hot stock, instead of sticking with a boring, diversified, low cost ETF mix and this has also hurt my equity returns.  With all that said, my portfolio is a mix of stocks/mutual funds/ETFs, cash, bonds/bond funds and real estate.  I'm in the process of moving out of mutual funds to ETFs where I can without incurring taxable events.

[k9]

Option 1:
Purchase a $490,000 property with a 20% deposit, live in it and pay it off aggressively in 15 years. Property increases annually at an average of 3% and the loan is charged at 3.89%. You pay no rent but incur the cost of owning a property.

Yeah, properties used to increase about 3% a year on average when I bought my house in France, a few years ago. But the pendulum swung, and it's value is now below the price I paid it for. Not that I care (it's still the same house and I don't want to move, so its market value is totally irrelevant), but you shouldn't take market price evolution into consideration. On average, real estate prices tend to keep up with inflation (which makes sense, when you come to think about it: it does not grow by itself, and it is not something the federal reserve can inflate by printing it at will).

That being said, I'm personally a big proponent of home ownership with aggressive mortgage repayments. I like to have a place to live in and no debt.