Why is REI better than investing in the stock market?

165 Replies

Hello Everyone!

I'm trying to convince my finance/MBA friend why REI is a better business decision than investing in the stock market and I'm not sure he's convinced. What is the best article on BP you've read that compares the two? I'd like to send him one that eloquently describes the concepts of Leverage and Forced Appreciation. He received a 34% return on his stock portfolio last year and I want to show him how he can receive a higher return through these two concepts using Real Estate.

Thanks for your help!

I'm gonna play devils advocate here....

Why are you attempting to convince him that REI is better than investing in the stock market if you yourself can't explain to him why it is? I'm pretty sure you can find articles and examples that support either side depending on which side you want to argue for.

Don't get me wrong I agree with you and *I* prefer REI over stocks and I can give reasons why I think REI is better for *ME* but I'd have a hard time telling someone else who made a 34% return on stocks that REI is better for them.

Hmm, well I did just read this article the other day about a guy who wishes he'd put more money in REI and less in stocks, but he doesn't really get into the numbers/specifics, and a lot of the article is about some new investment website. But perhaps it can help you.

http://finance.yahoo.com/news/way-play-worlds-oldest-wealth-190609247.html?bcmt=comments-postbox

Have you tried going over some sample numbers with him? Say, putting $50,000 down on a $200,000 place that rents for XXX with YYY expenses/year (make some reasonable numbers up), with ZZZ appreciation/year (maybe 3% or 4%) - then calculate the average ROI. Then compare that to investing the same $50,000 in stocks, with whatever the average returns are for the stock market. You can't compare one phenomenal year in the stock market (34% won't happen every year, last year was a major recovery for the market) with average REI ROIs, you have to compare apples to apples. Besides his great return, REI had great returns last year too - due to the run up in RE values.

Good point by Chris, REI isn't for everyone. It's great for me, since I want control of my investments (which is why I don't like investing in stocks - no control), but some people like the more hands-off aspect of stocks.

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Your MBA friend has went through several class to get his degree that have molded him in to think that if you play the stock market correctly it can be very rewarding and 34%, well thats seems impressive. Even if we don't know what he original invested.

The truth is investing is about putting your money in to something that you understand. Most invest in real estate because the investment is in there own backyard they could watch a local market and make projections easy on a local level than they can on world wide national level. To invest in stocks one was to be more intunned with global economics.

I personally like the aspect of real estate because you can buy an investment and it could provide a monthly return while you still own it verses a stock you have to cash out to make your profit. Also there is the tangible aspect of it, if your stock crash what is the piece of paper worth?

Since the being of time more people than one can count have lost there lives over the battle to obtain Real Estate. That only should show it value as an investment.

@Porter Rappleye - Point out to your friend that the long-term results of stocks (and the companies behind them) are a paltry 13% or so on average. Then point out to your friend that most of the big CEOs that run the big companies get paid multi-millions by their idiot board members to produce such paltry returns. And, if you friend hasn't spent some serious time working in big-corporate world, have him read a year's worth of the Dilbert cartoon and remind him that this cartoon is very accurate on so many levels.

I am a finance/MBA guy,

I have a nice RE portfolio and I have a nice stock market portfolio.

I have been returning 36% a year in the stock market and already up that for 2014 YTD.

I am an outlier since I do not trade direct stock but I trade and understand complex derivatives. I know how to make money in the markets no matter what direction the market goes, I have full liquidity to my money, and leverage through margin.

In RE there is not liquidity and very high transaction costs.

Good luck trying to build a portfolio of stocks out of thin air! With real estate you actually can. You can still buy a house with $5000 down that appraises $150,000 and your tenants are paying down your morrtgage with the rent and you get the "left over" of $100 each month. That is the starting point. 3 years down the road your "left over is $180 and 6-7 years down the road it is $300/month. Very conservatively!

On some properties I had only put down $2000k and now 10-12 years later I have the "left over" or cash-flow of $6-700/mo and the house is about 30% paid off! Tell your friend try to duplicate this return with stocks. :)

@Porter Rappleye: Ali Boone is an investor and member of BP who addresses this straight to the point in one of her blogs on her website; she calls it "Blue Chip Real Estate Investing". I read the blog and have to agree with Chris K. My interpretation is both depends on the market, and both have different strategies to make one successful. So, if your friend made a 34% return on his stock portfolio, cudos to him; he must have experience in that area.

Here is Miss Ali's website for that particular blog if interested: http://hipsterinvestments.com/blue-chip-real-estate-investing/

@Justin Case

Robert Kyosaki summed it up once pretty neatly:

investing in the stock market for the AVERAGE person is like driving a car blindfold, without the steering wheel. (he had demonstrated that with the go kart once on stage!)

I agree with that statment 100%. And like you said you are the outlier do you expect the averadge 401k person to follow your technics? So for regular folks their best shot is to get some where financially is REI if they use common sense and are careful.

As another eluded to, why do you need to convince him that RE is better? While I would personally agree it is better as a whole, stocks do have their benefits and their place.

34% annually is quite impressive. I am willing to bet that he has not or can not duplicate that year in, year out over a 10 year period. Very few in the world could state that. However, getting more than 34% in RE is not easy either unless it is a fully active investment, like flipping. Stocks have ease of liquidity, you can use leverage via margin, however, there are some dangers and downsides to that, and you can easily diversify in stocks.

In RE, costs to sell are much higher, liquidity is time consuming, and costly, but leverage is with ease and the tax benefits far outweigh any stock options.

A 34% return is great... even the average of 13% that @Bryan L. mentioned is great, provided you have plenty of money invested. And frankly, for folks with plenty of capital that type of investing could very well make more sense than real estate, even though the likelihood of maintaining the stellar 20% + returns are slim.
But as @Val Csontos pointed out, one of the beauties of real estate is that you can do so much starting with so little.

I don't agree, my personal situation does show all of your beliefs. We bought our primary home in 2006 at the top of the market, because as everyone else thought that the market would continue to climb. We have paid off 60k from it's purchase price of 230k. We had our house appraised this past year and our house is one of the nicer homes around and the market value is 215k at the most, so it still hasn't recovered.

Whereas my Vanguard index fund portfolio plummeted 58% in 2009 and now has recovered 150%, so in these two situations the market was much more profitable for me.

This doesn't mean I don't believe in diversification, so I am in the process of closing on a duplex that will cash flow quite well, but I don't really know if appreciation has topped out at this point or will take a dive again, no one really knows, but that doesn't mean I'm not going to try and invest in REI.

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As an asset class, U.S. equities generally produce higher annualized returns than real estate. Doesn't mean you can't do exceptionally well with either one of them, or hopefully both. I found a fairly dated article that nicely outlines the key pros and cons of each against the other.

http://www.money.cnn.com/galleries/2007/real_estate/0704/gallery.stocks_v_realestate.moneymag/index.html

Lastly, I would argue that it's important to have exposure to both asset classes for higher risk-adjusted returns over the long term.

Keep in mind that the S&P 500 was up 32% last year so 34%, while a good return and better than the index, is not amazing skills.

I view stocks and real estate as two completely different things. Stocks are an investment while real estate is a business to run. Even if you're a hands off owner with property management, you still have to manage the PM, repairs and updates. Not everybody can run a business but everybody can, and should, be an investor.

Great topic!

While I started out with RE investing I have taken alot of my cashflow from RE and put it in the stock market to diversfy, I absolutely love RE investing for alot of the reasons mentioned. Additionally where else can you buy an asset with 5 or 10 or 20% down and have other people pay for the rest of it? Using other peoples's money to grow your net worth is a wonderful thing. Also being in control of your asset is a huge plus as well. When you invest in securities you basically have no control over it and can only hope it appreciates where with RE you can directly influence your asset appreciating in value. Also the tax benefits are great as well - where else can you show a paper loss in the accounting world and in reality have a gain? Sure, if you are making a killing in your RE investment you will pay some taxes but not before you offset it with depreciation and any expense you put into it. With securities you are stuck paying full taxes on your gains (short term long term and in some cases ordinary income!!)

Again, RE investing isn't for everyone but there are so many aspects to it: buy anad hold, rehabbing/flipping,syndication, note investing, tax/deed investing, hard money lending the list goes on.....

You can make money in securities and well as Real Estate why not do both?

Best regards,

Chris

I appreciate everyone's insight. Chris K, I completely agree with you that if I can't explain it myself I shouldn't be trying to sell someone on the idea. I have a pretty good grasp on REI and can explain the benefits quite well but was just hoping to find a good article or two to help solidify what I've already talked with him about.

Thank you for everyone's insight so far, it is very helpful!

@Marcus Johnson comparing a single family home that you live in with an income producing property just does not work. Just as an example, many people live in homes that they could not rent out and cover the mortgage payment, but very few investors would buy investment property with numbers like that.

For me its more an issue of control. I have ZERO influence on the performance of stocks or their underlying companies. I also have friends who are hedge fund managers and I understand just how rigged that game really is. ANd to the 34% return, sure last year everyone was a stock market genius. What did your friend make in 2009? Thats not to say I dont own stocks. I do. And while the long term returns on an index fund might be decent, the actual entry and exit points matter. Ask anyone retiring in 2009. Contrast that to my real estate portfolio. I have homes that pay off fully in 10 years so I get 4X my investment in 10 years with no appreciation assumed. If the value of the homes drop 50% I still get 2X my money in 10 years. The rental yield is at least partly under my control and better management can improve returns.

Having said all that, diversification is key. I have rental homes, a primary home in a high cost high appreciation area, private lending funds and Tax lien funds in my portfolio. I also own stocks, stock funds, muni bonds, everything except gold which I just dont believe in.

@Brianna S. I am staying with Stock/Derivatives.

@Val Csontos you are correct about average person and their 401k/IRA. And they are lazy to try to learn how to invest in the stock market.

It is also very hard to hedge or reduce cost basis on a property like can be done with a stock.

I keep the money I am saving for my next real estate investment in the stock market because it does provide better returns than a savings account. Having thousands of dollars sitting in a bank account while you build up funds for your next real estate investment seems like such a waste.

Last year I had about a 32% rate of return in the stock market. This was without using any fancy tricks or secrets. I have a very simple investing philosophy and I do not use gurus or financial advisors.

Here's 10 years of the Dow:

Stock market investors, of which I was one for many frustrating decades, have short memories. Anyone invested in stocks on October 12, 2007 when the Dow was at 14093, would have watched their portfolio drop continuously by over 50% until March 6, 2009 to a low of 6626. It would have taken until March 1, 2013 to break even. That is, between October 2007 and March 2013, over 5+ years, you would have come out even. Even!! What happened to the 34% return? Short term, you can always find some peaks and valleys to show how well you're doing. The media is great at this.

No thanks.

We've been out of the market for years and couldn't be happier with notes. I can tell you to the nickel what the value of our portfolio will be in six months and the returns are in the high teens, unless we get paid back sooner, which increases our return. This is all secured by property. I defy any stock investor to tell me how they will do ten minutes after the market opens tomorrow, yet alone on the day they want to retire or make a major purchase. This is not investing, it's gambling. Scary.

It delights me to no end that Wall Street has the retirement community almost completely locked-in, uneducated, and with no control. I know they like that. Only 3% or so of retirement funds are self-directed.

Let's keep this as our little secret.

Jeff