Real Estate and Shares; brothers in arms

I had an interesting discussion with a friend, as you do, about the relative merits of investment in the share market versus residential real estate. Given that it is a comparison of apples and pears, finding some long term commonality as a basis for comparison is the first problem.

In 1992 the market index was known as the Barkley index I believe; subsequently it morphed into the NZSX40 and then the NZSX50. Brokers use a ‘Proxy Time Series” to show returns an investor would have received had they invested between the three through the changes to the present date; I have used that series as the basis.

An investor in shares usually uses capital, i.e. doesn’t invest borrowed money. For such an investor to match the performance of the index would be no mean feat in itself, particularly if their portfolio was very diverse. Costs of buying and selling shares, losses vs. gains on trades and simple outright losses as companies collapse make such achievement particularly special. Shares available at the time and very likely to have been included in a portfolio would include market heavyweights such as Telecom and Air New Zealand, shares that cost investors plenty.

The growth of the index is matched, or bettered by the return given by property investment. I used the following assumptions:

a)    Investor committed capital to the purchase

b)    The property purchased was represented by the median property of the area.

c)    Rental return was the sum of either 4% or 5% of the changing annual value of the property for the period Feb1992 to Feb2011

d)    A median property in 1992 was the same as a median property in 2011

e)    Tax payable on rental income averaged 20% after deductions and depreciation

The table below shows relative performances of the two markets and goes some way to account for the Kiwi love affair with property.

A perfectly ordinary, untutored, average member of the public can invest their savings in an average and ordinary home, rent it to ordinary Kiwis and achieve a result that is at least equivalent to and possibly superior to that of the share market. Bear in mind that the real estate investor could safely control all the processes. To achieve a similar result with shares would require specialised knowledge; not least the ability to read a prospectus and make sense of it.

Buying either commodity is fraught, pay too much for a property through a spruiker and the effect is to slow down the growth rate, time will inevitably solve the problem, a poor choice of share can easily lead to total loss, odds are that some companies will collapse over such a period.

In fact, both commodities have their place. Real estate has the advantage of gearing, i.e. use of mortgages, and the unique ability to enlist others to pay toward your betterment. Kiwis who only invest in the home they live in can at the least enjoy the benefits of investment and a tax paid return of 6.5-6.77% is no small benefit on a median home. For these investors it is likely that investment in shares would not be possible for lack of capital, it is also worth remembering that a dwelling is a necessity and a real cost.

It is a foolishness to dismiss either, or other, options; investment per se is to be recommended. Media pundits always speak through the filter of their agendas, as I do; I am a real estate agent and proud of the good I can do.

April 06 2011 11:14 am | Uncategorized

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