Real Estate vs. Stocks: Which Has Performed Better Over 145 Years?

by | BiggerPockets.com

What’s a better investment, stocks or real estate? And, while we’re asking this grandiose question, what’s a safer investment?

You probably have an opinion already as to the answer to both of these questions. It’s good to have opinions about important questions. And these certainly are important questions – they directly affect how you grow your wealth.

But opinions are never as useful as facts.

A team of economists from the University of California, Davis, the University of Bonn, and the German central bank, set out to answer these questions by analyzing a stunning amount of data.

Answer it they did. Ready for 145 years of economic data, summarized over the next five minutes for you?

The Rate of Return on Everything

The lead authors of the study – Oscar Jorda, Katharina Knoll, Dmitry Kuvshinov, Moritz Schularick, and Alan M. Taylor – reported the findings of their massive study in a paper entitled The Rate of Return on Everything, 1870-2015. In it, researchers looked at 16 advanced economies over the past 145 years. Specifically, they compared returns on equities, residential real estate, short-term treasury bills, and longer-term treasury bonds.

With each asset type, they adjusted for inflation and included all returns, not just appreciation. Dividend income was included for equities, and rental income was included for residential real estate.

Their findings, in short: Residential real estate had the best returns, averaging over 7 percent per annum. Equities weren’t far behind, at just under 7 percent.

Then came bonds and bills, with far lower returns (surprising to no one).

Related: Worried About a Stock Market Crash? Prepare for the Bear Without Fear

Equities vs. Real Estate

Rental income proved an important factor – roughly half of the returns on real estate came from rents, while the other half came from appreciation.

Equities and real estate each performed differently in various countries, of course. Here’s a comparison of each of the 16 countries when considering equities versus real estate:

Keep in mind, these are long-term averages over the course of many decades. In real time, these returns bounced up, down, sideways, and in circles.

Here’s a curious little chestnut for you: from 1980-2015, equities have, on average, performed significantly better than real estate. Across the 16 countries studied, equities earned an average annual return of 10.7 percent, decisively beating real estate’s stolid 6.4 percent.

Should we all sell our rentals and buy stocks?

Of course not. But the reasons are multiple and a bit nuanced.

First, a few outlier countries threw off the average returns from 1980-2015. Japan saw its real estate markets collapse as its population aged and started declining. In Germany, real estate has been stuck in the slow lane for decades.

Meanwhile, equities in Scandinavia have exploded.

But the most interesting case for real estate lies in its risk-reward ratio.

Of Risk and Volatility

Let’s do a quick stereotype check-in, shall we?

Treasury bonds are low-risk, low-return. I don’t think anyone’s prepared to challenge that stereotype – after all, stereotypes exist for a reason, right?

Equities are high risk, high return. This one gets a little more interesting, but a quick look at how stock markets have gyrated for the last century – up 29 percent one year and down 18 percent the next – should disabuse anyone of the notion that equities don’t come with high volatility and risk.

And that brings us to an economic assumption that dates back to, well, the beginning of economic theory. Economists have long held as a given that risk and returns are highly correlated, and that “the invisible hand” of the market will ensure that remains the case.

Why? Because if an asset were low-risk, high-return, everyone and their mother would fling so much money at it that the returns would dry up faster than Lindsay Lohan’s acting career.

Except that assumption hasn’t held true for residential rental properties.

Rental Properties: Low Risk, High Returns

Throughout modern history, residential real estate has actually boasted extremely high returns with low risk. Take a look at volatility for equities versus real estate for the past 145 years:

Brighter economics minds than mine are scratching their heads as to why that is. But since I can’t resist offering a (you guessed it!) opinion, here are a few thoughts as to why.

First, real estate is expensive. Until the past ten years, with the advent of crowdfunding, you couldn’t invest your extra $100 a month in it like you could do with stocks.

Even if you leverage to the hilt and borrow the maximum mortgage allowed, that still usually puts you at 20 percent down, plus thousands of dollars in closing costs. Which says nothing of credit requirements, income requirements, and/or lenders’ requirements for investing experience.

In other words, real estate investing has a high barrier to entry.

It’s also difficult to diversify for those very same reasons. If each asset requires $20,000 in cash to purchase it, then it takes a lot of money to build a broad, diverse portfolio.

Real estate is also notoriously illiquid. You can’t buy it and sell it on a whim – it typically takes months to do either one.

But hey, that’s also precisely why it’s so much more stable than equities.

Related: The Irrefutable Advantage Real Estate Investors Have Over Stock Investors

Sharpe Ratios & Measuring Risk vs. Return

How do you measure an investment’s risk against its return?

It turns out, there’s a simple way to do this, a literal risk-reward ratio. It’s called the Sharpe ratio after its creator, William Sharpe.

You start with an asset’s return, and subtract out the return of the going with a short-term, risk-free alternative (like U.S. Treasury bills). That gives you a “risk premium” – the extra return the asset delivers, over a risk-free investment.

Then you simply divide that “risk premium” over the asset’s volatility, as measured by its annual standard deviation in value:

Risk Premium

___________________________

Average Annual Standard Deviation

If the math is giving you a headache, don’t worry about it. Just think of it as return divided by risk. A higher ratio indicates a better investment – greater return, relative to the risk.

Treasury bonds clocked in at a Sharpe ratio of around .2. Weak sauce.

Equities weren’t much better, at .27. Sure, their returns were strong, but they’re more volatile than plutonium in a mad scientist’s lab.

But residential real estate? It averaged a Sharpe ratio of .7.

For everyone who didn’t like the look of how real estate returns have compared to stock returns over the past few decades, consider that the Sharpe ratio for real estate has only grown stronger over time. Since 1950, the Sharp ratio for real estate has averaged an impressive .8.

Another way of looking at it is return per unit of risk – here’s how equities have compared to real estate in each of the 16 countries studied:

Returns & GDP

Advanced economies tend to have slow economic growth, right? So how have returns done so much better than the GDP growth in these countries? Aside from the obvious issue that these economies looked very different in 1870 than they do today, there’s an interesting answer to this query.

It turns out, a country’s returns on its equities and real estate are not tied in a 1:1 relationship with its GDP. Over time, returns on these assets tend to average growth around double the speed of the country’s economy as a whole – measured by GDP (see chart at right).

If anything, that “returns average double GDP growth” summary is skewed low, because it includes the weak returns on bonds and bills. On average, equities and real estate perform several times better than GDP growth.

This helps explain why income inequality tends to expand over time in advanced economies. The average Joe does not own stock, and if he owns any real estate, it’s his one individual home – a home that he probably only earns appreciation on with no rental income (and remember, rental income makes up half of real estate’s returns!).

So how does Average Joe’s finances improve? Only through a raise. His raise is tied to how his employer is doing, which, in turn, is tied to how the economy is doing.

In other words, Average Joe’s finances are tied to GDP growth.

But Wealth Wise Wendy, who’s not nearly so average as Joe, invests as much money as she can in equities and real estate. She builds a portfolio of passive income that earns money even while she sleeps. That income is based on the returns of her investments, not based on the economy.

Conservatives and liberals can argue all they want about how much to redistribute wealth. But as an individual, you want to be like Wendy, not Joe. You want your wealth and income tied to the returns of equities and real estate, not tied to GDP.

Where Do Bonds Fit in This Discussion?

Bonds are boring.

No, really. We already talked about how they’re low risk, low return. Why bother with them if you can invest in rental properties, which are low risk, high return?

A common opinion I hear people say is, “Bonds may not have performed well over the past 15 years, but that’s abnormal! Just look at how well they did in the ’80s!”

Interestingly, this new study disproves that notion. The high bond yields of the 1980s were actually the anomaly – in fact, if you look at bond returns over the past 145 years, there were many periods where they earned negative returns.

Want a few reasons why rental properties are better investments than bonds?

Here’s a simple one: bonds expire. They pay out for a specific term, then they stop paying. Rental properties keep paying forever.

And not only do they keep paying indefinitely, they pay more over time. With every year that goes by, fixed bond payments become less valuable in real purchasing power due to inflation. But rents rise right alongside inflation.

It’s actually your fixed mortgage payment that goes down over time in inflation-adjusted dollars! Then one day that mortgage payment disappears, and your rental cash flow explodes.

OK; yes, government bonds offer stability. They pay the same amount every month. They never call you about a leaky roof or stop sending payments because they spent too much on cigarettes and Bud Light that month.

But at what cost in returns?

If retirement looms on the horizon for you, familiarize yourself with sequence risk and how rentals affect the 4 percent rule so you don’t necessarily have to resort to bonds.

Should I Stop Investing in Equities and Just Buy Rental Properties?

Stocks may be a roller coaster, but in the long run, the good times outweigh the bad.

They also balance rental properties well. And as we discussed last week, when equities go down, residential real estate almost always goes up.

Equities are liquid. You can buy and sell at a moment’s notice. Real estate isn’t quite so easy to get in and out of.

Equities also offer truly passive income. I love talking about passive income from rental properties – I teach an entire course about it! But ultimately, rental income can never be as passive as dividend income.

It’s much easier to diversify with stocks as well. You can spread $500 across thousands of companies, in every region of the world, in every industry, at every market cap. You’d be lucky to get away with only putting down $5,000 on a single rental property!

Residential rental properties offer excellent returns with low volatility. I love rental properties. But that doesn’t mean there’s no place for equities in your portfolio.

If you invest well, rental income will start performing for you immediately. Equities will take longer; the stocks you buy today won’t produce significant income for you until 10, 20, 30 years from now. But they’ll grow in value for you at prodigious rates.

Build a portfolio of passive income from rentals and dividends, and when your peers are still working in a decade or two, their incomes tied to GDP growth, you can offer sympathetic words.

And then you can go back to playing golf and relaxing with your children, having reached financial independence.

We’re republishing this article to help out our newer readers.

What are your thoughts on stocks versus residential real estate? Do you disagree with my dismissive attitude towards bonds? How do you decide how to allocate your assets and investments?

Bring on the opinions in the comments below!

About Author

Brian Davis

Brian is a landlord and long-time rental industry expert, who offers a range of free landlord resources through his company, SparkRental. Grab a state-specific lease agreement or take our free mini-course on buying 2-4 unit rental properties while you’re at it.

Message me if you’d like me to write for you about real estate or personal finance!

67 Comments

  1. Cindy Larsen

    Brian,

    This is the best article I have read on BP this year. I will be reading that study next. i agree with your opinions on everything except stocks. Not only is the stock market as a whole a rollercoaster, it is nearly impossible to figure out what to invest in. Even the current wisdom of investing in ETFs based on market indices is flawed because there are thousands of ETFs out there, and doesens of articles abour which are the best etfs. How do you choose a good investment? Or a great one? i’m retiring my dart board, selling the stock in my 401ks and investing in RE. At least I can recognize a great vs good vs not-so-good investment in RE.
    I learned all the different stock valuation metrics and theories. None of it is able to predict performance.
    The most successful well regaurded stock pundits are wrong more than 50% of the time.
    Investing in the stock market is just gambling in my opinion. I don’t mind risk, but I need it to be a quantifiable calculated risk for which I can implement risk mitigation strategies: that’s real estate, NOT the stock market.

    • Brian Davis

      Glad to hear you liked the article so much Cindy!
      Regarding stocks, there’s obviously a lot to say on the matter, but I like the diversification, and stocks are much, MUCH easier to invest in using your tax-free retirement accounts (if you’re in the US, anyway). So in broad strokes, I use my retirement accounts to invest in low-cost index funds, and the rest of my money I put in real estate. At least I did, before I started a business – now all my money goes there!

    • Darin Anderson

      For investing in stocks the low cost, lowest risk, most diversified options are really really easy.

      S&P 500 index fund (vanguard, fidelity, and everyone else has one)
      or
      Total stock market index fund (vanguard, fidelity, and everyone else has one)
      or
      both

      If you want international exposure you can also easily find a total international stock fund (vanguard, fidelity, and everyone else has one)

      You don’t need to consider anything else other than those three or really just the total stock market fund if you want to keep it simple. (If you want really low returns you can get a total bond fund (vanguard, fidelity, and everyone else has one))

      All the articles about which of the thousands of investments are best are garbage. They are just chasing recent performance. What you want is the 7% return that Brian’s article is talking about over the last 145 years. You get that by buying EVERYTHING, not just some of the supposed best something (which no one knows). That is what the Total stock market index fund is going to get you and the S&P 500 index is going to get you the same thing with the biggest companies.

      I think the reason you can’t figure out what to invest in the stock market is that you are probably trying to outperform. That is a loser’s game in the stock market unless you are some kind of a trading speculating genius. If you want to outperform you MUST have an advantage. You don’t have one in the stock market and reading articles by who knows who on who knows what that everyone else can read won’t give you one. You might have one in real estate and can perhaps outperform there. Focus your out-performance on areas that you can add value and create an advantage and you will be far less frustrated than trying to outperform at blind dart throwing. The monkey is gonna beat you at that game every time, so just take the average and fahgettaboudit.

    • Jason A.

      the stock market has been and will continue to be one of the single best places to invest (barring a depression).

      sounds like you need an investment advisor … a good one is worth every penny and then some.

      it is not about STOCKS vs REAL ESTATE, though many RE investors like to criticize the stock market in the name of “risk” defined as volatility (which is actually opportunity for the informed).

      if single family homes had a daily mark-to-market like the stock market, what would we all do then? it is psychology.

      Disclosure: i have abt 50% in rentals and 50% in the stock market.

  2. John Murray

    I enjoy your articles Brian. I have a math mind and have come up with a law of investment.
    Greed-Fear/Risk = Success and Profit
    All values have a 1-10 value
    Quotient is absolute

    Zero output has the best chance of success and profit but cannot ever equal zero. There are no guarantees in life and life is not fair.

    When Greed and Fear are equal the quotient moves from 0 to infinity and chances of success and profit are nil. This is the crazy zone and the individual is indecisive.

    Risk influences success and profit on a smaller scale, Greed and Fear play the significant role in success and profit. Success is relative to profit. Success may not reflect large profit. The formula is universal for wealth building and wealth building may not reflect success.

    Humans are driven by Greed and Fear, Success and Profit are a direct result of Greed and Fear.

    Example 1
    My gas can was stolen form my property by a petty thief
    Greed=10
    Fear = 1
    Risk = 1

    10-1/ 1 = 9 The thief scores a 9. Not very close to zero, success is high but profit low. For the thief to move closer to zero Greed can remain high but Fear must increase. A bank job must be added to increase fear. Fear can be increased by armed thief and close proximity to law enforcement. This is shown in Example 2.

    Example 2
    Greed=10
    Fear =7
    Risk =9

    10-7/9 = .33 The thief scores a .33 Closer to zero for better success and profit. Notice that success is relative to profit. The chances of going to prison is high but compared to relative profit in the thief’s paradigm is acceptable. When risk is decreased by moving further away from law enforcement success and profit change very little. This is inherent to the formula. Success and Profit are driven by Greed and Fear, risk has only a minor role.

    My wife’s bother has an MBA from Harvard. He cannot punch a hole through this, he tried and just ended up frustrated. I have 2 more rules of wealth building. I will share them with you later.

    • Brian Davis

      Wow John, I can’t say I know what to make of that! Very interesting idea. I was a little confused about how Fear is determined, I confess. Does framing your investment decisions in this way help you make better decisions?

      • John Murray

        Hi Brian,
        These are the rules that have propelled me to be a multimillionaire. Since the stock market is based upon investor confidence (Greed-Fear) risk is a nebulous quantity. Since government regulation, tax payer bailout and other risk management options by the lawmakers are out of the hands of investors the only factors remaining are Greed-Fear/Risk. Fear and Greed drive human nature, Risk is a minor factor.

        Rule 1
        Greed-Fear/Risk = Success and Profit
        All inputs whole numbers 1-10
        Output is absolute and Profit is highest when close to zero
        Profit increases when Greed and Fear are close in value.
        When Greed equals Fear, Success, Profit and Wealth Building Stops
        Success and Profit are inversely proportional
        Greed and Fear are the major factors, Risk plays a minor role.

        Rule 2
        Money in –Money out- Tax burden= Reinvestment Capital
        Money makes money, reinvestment builds wealth.

        Rule 3
        Success (s) X Reinvestment Capital = Wealth Building
        The number of Success (s) increases Wealth Building, the amount Reinvestment Capital provides money for Wealth Building.

  3. Jennifer theron

    Real estate, when speaking of the ownership of land, refers to the land – not the improvements (house or structures on the land) and usually the land extends to the center of the earth and into space. Real estate is unique as no two pieces of land can be identical, therefore value is determined by the desirability of the land and the location (often based on proximity to a desirable geographical feature such as a City or body of water).http://www.googlesir.com

  4. Sean Barrett

    This might very well be the best article on BP regarding investment decisions and top 5 overall. I have been reading articles since the beginning of the site and this was fantastic! I think the conclusion is where most people get to when discussing risk vs. reward when it comes to investing, but the process/research/path to get there has never been explained like this that I’ve found. I am curious as to how commercial property would land on this spectrum…

  5. Eric C.

    I wonder if the RE comparison includes maintenance and vacancy costs. If not, that will bring down the returns on RE investing. All in all, the results are what I expected – equities will beat RE on average over the long haul (US market). Would be interesting what the results would be if you add in data points through end of 2017.

  6. Darin Anderson

    It is clear this study drastically UNDER-ESTIMATES the return a typical investors see on real estate.

    I was surprised to see equities so close to real estate until I dug into the study and realized why.

    From the study they rely on the rent-price ratios and growth in both net-rent and price appreciation to calculate returns. That is all fine and seems like a reasonable way to estimate returns, but as they admit, it assumes all real estate is purchased with zero leverage. From the study they state:

    “The benchmark rent-price ratios from the IPD used to construct estimates of the return to housing, refer to rent-price ratios of unleveraged real estate. Consequently, the estimates presented so far constitute only un-levered housing returns of a hypothetical long-only investor, which is symmetric to the way we (and the
    literature) have treated equities.”

    So they argue this is a fair comparison because they don’t use leverage for equities. But typical investors don’t use margin when they buy stocks because that is a good way to get wiped out due to the volatility of stocks and the nature of margin calls when a stock’s value drops.

    However most long term investors do hold their properties with leverage and this can be done safely when the properties are bought such that they have reasonable cash flow to protect against downside. When a property is leveraged at 60-75% with decent cash flow it can easily double the returns or more depending on the underlying financials of the property.

    This is more in line with what I would expect. As such, once you take into account leverage there is literally no comparison. There is no investment asset class that can touch the returns of holding leveraged real estate for rent.

    • Brian Davis

      While I agree that leverage is an excellent advantage to investing in real estate, I do think you need to compare apples to apples when doing a sweeping long-term analysis of returns like this. I don’t think there’s a practical way to compare leveraged real estate returns to unleveraged equity returns.

      • Eric Jones

        Curious to hear why you guys think this is a fallacy and why leveraged RE returns can’t be compared to stock market returns? I agree with Darin – investment returns are purely a function of cash invested versus realized cash flows so you can compare any asset since at the end of the day all that matters is cash flow. This can be calculated in numerous ways including discounted cash flow analysis, cash on cash return, or my personal favorite internal rate of return which accounts for the up-front cash invested, loan paydown, property appreciation, and the time value of money for expected future cash flows.

        Agree with the overall article – both stocks and real estate are great assets to be in long term. You get high passive returns with stocks over time, but you can quite easily beat these returns by wisely using leverage like Darin mentioned.

  7. Christopher Smith

    I’m always quite surprised to hear so many RE folks bad mouth the security markets. How you just can’t win, how it’s totally rigged, and all that same silly nonsensical blather.

    It’s just like any other very highly competitive activity, come in very well prepared and disciplined, both mentally and emotionally, and you will win. Come in unprepared and you will get abused like some addled school boy that’s just had his lunch money taken.

    I’ve won big in both the RE and security markets over the years, beating the averages consistently and solidly in both areas, but it takes keen insights, extreme emotional control and a willingness to take intelligent risks.

    If you can’t bring that to the game don’t come to the table or dollar cost average yourself into a solid index fund.

    • Joseph Oppedisano on

      I am guessing this study was done based on a “ALL CASH” Purchase on Real Estate? I would assume your cashflow, appreciation, and equity by down when leveraging would have much greater ROI. Seems like the Internal Rate of Return (IRR) would be much higher on Real Estate vs. Equities, correct? I think this study is misleading because with the power of leverage 5:1 in most cases in real estate the long-term returns should be much higher vs. Equities. Any thoughts out there??

        • Christopher Smith

          Probably also should note that when you invest in equities in a sense implicitly you are effectively using leverage even if you don’t use debt to acquire the stock itself. Why, because that equity represents only a portion of what was used to acquire the assets that generate the gains attributable to the stock, the rest is the company’s debt. The debt holders get the routine return first and you as the equity holder get all the residual. Essentially the same thing you so when you buy RE with borrowed money and your own equity.

        • Pat Tibbetts

          Yup. People who pick stocks for a living (assuming they have more than half a brain) do a — wait for it — PRO FORMA ANALYSIS of the company they’re buying. It’s identical in every material respect to a RE pro forma. No matter how smart you are or how valid your assumptions are, you’re essentially attempting to predict the future. I don’t have a crystal ball, so I diversify. It’s the closest thing to a free lunch anyone will ever find.

        • Darin Anderson

          Its not the same because buying equities with 4 to 1 leverage will wipe you out with any 20% correction which happens every few years. In fact the margin calls would have you selling off stock and getting drastically diluted much before then.

          4 to 1 leverage on a fixed interest long term loan with a strongly cash flowing rental property has very little risk at all to drops in asset values. The only risk is if you have a drastic drop in rental rates or a drastic increase in vacancies that persists long term.

          This is basic real estate investing knowledge. People who went broke in 2008 didn’t follow that formula. Their properties didn’t cash flow. Their loans weren’t fixed and locked. So sure, if you use leverage like an idiot you are likely to blow yourself up. But if you use it properly it has very little risk at all. It’s fine if you don’t want to use it, but knocking it without making valid arguments about the difference between stock leverage and real estate leverage does not prove your point at all. It’s just a facile comparison.

          Every real estate investor I know uses leverage.
          Every home owner I know uses leverage (until they retire and might have it paid off).
          No stock investors that I know use leverage (I know they exist, I just don’t know any. For the most part they are called speculators, not investors, because it is a highly risky and speculative venture).

          There is zero equivalence between stock leverage (margin) and real estate leverage.

        • Pat Tibbetts

          Darin, I’m not knocking leverage anywhere. I’m saying leverage in any investment is riskier than the same investment when it’s unleveraged. In that respect, they’re exactly the same thing. Explaining away how people get wiped out in leveraged RE is exactly the same as explaining away how people get wiped out in leveraged stocks: “they didn’t do it right.”

        • Darin Anderson

          Pat,

          I definitely agree that leverage increases the risk from the baseline of any investment.

          Maybe I should put it this way.

          Let’s say on a 1-100 scale, baseline stock risk = 40, baseline real estate risk = 20. Based on Brian’s article the data showed stocks at twice as risky as real estate so that seems like a reasonable place to start.

          real estate with leverage properly used, on cash flowing properties with stable rental history increases risk from 20 to some slightly higher number perhaps 25 or 30. Using any kind of comparable leverage in stocks where you are levered 3 or 4 to 1 which is typical in real estate takes risk to a crazy high number perhaps 85, 90 or worse. Using 2 to 1 leverage which is all I am aware you can do in a margin account, still takes risk up to 70 or 75 on a 100 point scale.

          You can argue about whether the numbers should be higher or lower but the comparative difference is what I am talking about and it is monumental between stocks and real estate.

          You can very safely use leverage and invest in real estate to increase returns. You cannot do that with stocks without being some kind of genius stock trader. I know they exist, but this is advice for the typical investor. Very few people can pick all over achievers like Christoper can. I know I certainly cannot, so I stick to places where I can use leverage to get above average investment returns and that is in real estate only.

        • Pat Tibbetts

          Darin, you have to understand that “risk” is not monolithic. There are many kinds: market risk, political risk, default risk, etc. With RE, certain risks are at the forefront, liquidity risk in particular. Can you sell any of your properties in an hour, or even a day? Me neither, but I can sell a position in an ETF in seconds. The return on capital is lower for publicly traded companies, in part, because there is such a liquid market for them. You’re just trading one kind of risk for another, so the “baseline” risk of 40 vs. 20 is suspect from the get-go.

          Even more to the point, would you accept the cash flow on a paid-for property if it was the same as with leverage? Me neither. There is simply no way to circumvent the relationship between risk and return.

          An asset classes is just an asset class. It ALWAYS outperforms. (Until it doesn’t, of course.)

    • John Murray

      Christopher you have some great points about how to research and maximize your investments. I would assume you are a full time investor and do not get a W-2 in each tax year. If you are not you are not maximizing your potential. Rewind the clock to August 2008, I would assume you would have shorted Fannie and Freddy. If not what you have written holds no value. I did dump all my real estate holdings in 2005 and braced for the crapstorm. But you must have made killing shorting Fanny and Freddy, I’ll stick to dollar cost averaging that is why I’m a multimillionaire. I would assume you are too.

  8. I owned rentals for years until I got tired of dealing with tenants and repairs. I have also invested in the stock market for over 45 years. 5 years ago I started buying trust deeds and doing private lending secured by real estate. The average interest paid is over 9% with very low risk. Most of these notes are in my self directed 401k plan. I see the notes as my fixed income portfolio and use equities for growth and liquidity. Being diversified is the key to a balanced portfolio.

  9. Nathan G.

    Brian, this study appears good on the surface but they’re missing the boat. We have to remember they are measuring all properties, not just investment properties. This would be primary residence as well as investments, which significantly skews the result (for our perspective, anyway).

    Here’s where I think they’re missing it:

    1. Their analysis probably includes primary residences and investment property. Most of these are purchased at market rate, whereas the savvy investor will purchase properties well below market, forcing a significant increase in overall return.

    2. Investors are leveraging their money. If I spend $20,000 on the stock market, I reap the benefit of $20,000. When I spend $20,000 in real estate, I reap the benefit of $100,000 or more!

    3. Once I purchase stock, I no longer control my money. If I invest in Pepsi, I can’t do anything to control whether the value goes up or down. With real estate, I can affect the value through creative changes. I can convert it to a different use. I can change zoning, sub-divide the land, etc.

    4. Tax write-offs. I can “hide” money in real estate investments and reduce my taxable income dramatically. Can you do that with stocks? My rentals are making money hand-over-fist yet I was able to reduce my taxable income so much last year that I’m getting nearly 50% of my estimated taxes back! Depreciation, capital improvements, property management, etc.

    I’m sure there are other things that are missing. I would love to see a similar study looking only at investors with more than four units. I bet the numbers would double the stock market.

    • Pat Tibbetts

      There are some things you’re missing as well:

      2. When you leverage RE to reap the returns on 5x your investment, you’re incurring substantial additional risk — unless you think debt doesn’t increase risk.

      3. You don’t really have as much control as you think. While it is possible to create value, you can’t control property tax rates, you can’t control whether a desireable neighborhood goes south, you can’t control whether Uncle Sam will legislate away your tax advantages, and you can’t control whether your tenant will decide to rebuild his lawnmower engine on your brand-new carpet. (Feel free to ask me how I know about that one.) At best you can influence those risks, but you can’t eliminate them.

      4. I “hide” money in tax-advantaged investments all the time. (Hint: they are not all RE.)

      TL:DR: investments are just investments. It is possible to assume too much risk in any of them. The safe ones return less, the risky ones more (on average). I wouldn’t have everything in RE any more than I would have everything in equities.

  10. Geno Triana

    I wonder if they took into account the 6% transaction fee that you typically pay realtors at some point during a housing investment vs the $10 transaction fees when you buy stocks. The effect of leverage, interest rates, maintenance, and property taxes would further complicate the matter.

    It seems that it is normal in most markets for rental income to break even with operating costs if you have a 30 year fixed loan on the property with a downpayment of 20% or less. I am not sure if it is fair to include the full estimated value of rental income in that calculation without considering the costs.

    • Brian Davis

      It’s a good question about what costs they included. Still, if you diversify your equities with ETFs or mutual funds, you still end up paying an annual fund management fee. If you buy individual stocks, then to diversify you’ll be adding up a lot of those individual $10 transaction fees. Especially if you invest every month. So it’s worth mentioning that buying, managing, and selling stocks is not without its own costs and fees.

  11. Andrew Syrios

    Great article and very interesting! I wouldn’t have expected real estate to beat the stock market in return. It was all the other advantages of real estate (less volatility, depreciation, inefficient market, etc.) that made real estate better.

    • Brian Davis

      Thanks Andrew, and to your point, in the US equities have outperformed real estate returns (although not by a huge margin). And when you take into account the lower risk/volatility, the return per unit of risk is just outstanding.

  12. Christopher Smith

    Nearly all of the significant fortunes made in the last 40 years have been made by owning stock not real estate.

    Real Estate is fine, I have a significant portfolio of rental properties that provide a very nice tax efficient stable source of cash flow every month, and have solidly appreciated as well (my properties are primarily located in the Silicon Valley area, and some in solid Midwest markets).

    But as profitable as those Real Estate investments have been they don’t even remotely compare to a portfolio of well chosen high beta stocks (e.g., Facebook, Alibaba, Google, Tencent, JD.com), all of which I have had the good luck to get in relatively early. Sure the volatility can be very extreme at times, but volatility is also a prime source of incredible opportunity for those with a keen eye, real nerve and true emotional discipline.

    Taxes have never been much of a problem either, you don’t sell you don’t have gain its super simple, and when you pass all the gain goes away – so where are all these terrible taxes. If you get dividends (e.g., Microsoft and Apple which I own) they are taxed at only 15%. That is at least as low as my rental real estate profits (and that’s fully taking into account depreciation beneifits) and far lower than my REIT dividends.

    • Pat Tibbetts

      Exactly. I’m not knocking RE or leverage at all. I retired 10 years ago, at age…well, let’s just say I was younger than 50. Half of my investment portfolio was (and is) in RE. Half of that is still leveraged, but I am reducing my exposure as I get closer to traditional retirement age.

      People who think RE is a low-risk, high-return investment either haven’t thought about it long enough, or are deceiving themselves.

    • Vaughn K.

      Your scenario is not really typical Christopher. Almost nobody that’s a regular investor “makes a fortune” from stocks per se. Bill Gates made a massive fortune from STARTING A COMPANY. The same for everybody else, Steve Jobs, Elon Musk, etc. Some VCs in Silicon Valley that invested in PRIVATE companies have arguably made fortunes from owning stocks and being investors, but guys who try to pick stocks end up doing worse than the market average, statistically speaking, in almost all cases. VCs are a different thing entirely.

      Stocks are fine for diversification, and they will make reliable returns over the long haul… But few who make 50K a year from their job and invest in the stock market are going to end up with 5 mil in the bank when they die, yet plenty who invest in real estate do this. The reason for that is leverage. Period.

      If a guy just wants to retire comfortably and doesn’t want to build a lot of wealth, just toss it in a 401K and let it ride. But if somebody without a massive income wants to build real wealth RE done right has the potential to get him there, whereas stocks really don’t. As this article mentions RE “breaks the mold” and has far better returns for the risk according to the numbers. If you throw in normal leverage (20% down, 30 year fixed or something else conservative) the return spikes a ton, but risk only barely inches up. This is why everybody knows guys who made millions in real estate… Yet I’ve never met anybody who had a regular job and bought a yacht with their 401K money!

      • Christopher Smith

        Who says your money has to be in a 401k, and who says you can’t lever a stock portfolio. Apples to Apples i.e., unlevered returns to unlevered returns, it’s not even close and never has been. Additionally for every Bill gates, or Bezos, or Brin or Ellison (and the list goes on and on) there are another 100,000 employees all of whom are multi millionaires from investment in stock (not real estate) of the many, many companies in the tech sector and many other sectors as well.

        You should read Buffet’s books he very adeptly clears up the gross misconceptions most folks have about stocks. The reason most people fail in the market is that they are their own worst enemy. It’s not the stock market to look for a person’s failure in the market it’s the mirror. Admittedly, it’s not a game for the weak of mind or emotion, but winnable big time definitely.

        With regard to the last comment did you know there are over 15,000 federal government employees with over 5,000,000 in their 401k equivalent (TSP) all of whom could easily by a yacht. Given that government employees represent as a class probably the most risk adverse persons on the planet, you vastly underestimate how much money others outside the goverment, not nearly so risk adverse have made.

  13. This reasearch is a bit misleading – equities are very liquid with easily observable prices hence more volatility. For Real estate the authors had to make assumptions and that resulted in smoothing which naturally results in higher sharp ratio when we know they conclude prices are roughly the same.

  14. Brian Robbins

    @ Brian Davis, I would like to see how the original authors study would have turned out had they separated out commercial multifamily real estate (complexes with greater than 75 units) from all residential real estate and compared that to equities. I have seen other studies which have done just that and the Sharp ratio for CMRE far outperforms any other asset class other than (oddly enough) self storage.

  15. Vaughn K.

    So I agree with Darrin and others above… It is reasonable for them to do an “apples to apples” comparison as they did with leverage free RE versus stocks… But it is also not the most useful way to compare in the real world either. Having both would be better and show the true picture.

    The fact is there is a “typical” way to invest in stocks and in RE. In RE you use leverage, because it is so low risk in RE just because of the loan products available. With stocks, the way the loan products are structured, it is very high risk, so most do not. So comparing RE with no leverage to leverage free stocks is like taking an engine designed to run on low octane fuel, and comparing it to an engine designed to run on high octane fuel, but using low octane in it anyway to keep it “fair.” In a modern computer controlled car the high octane engine will still run, but it will be putting out a heck of a lot less horsepower than if it were being fueled correctly, hence the comparison will not be fair or accurate to both being done properly.

    Other than when nearing retirement age only a fool would not use long term fixed rate mortgages in RE, if making maximum returns was ones goal. Even with a generic 20-25% down for 30 years scenario the returns for RE would BLOW DOORS on typical equity returns. Not to even mention that one can get jump started with far better returns by buying your first several quad plexes and house hacking with 3.5% down! COC in such situations can often be around 100% per year in some markets. Good luck leveraging stocks 28x while still positively cash flowing! That can’t be scaled infinitely of course (unless one has a silver tongue and can talk their way into buying 200 unit apartment complexes with no money down), but it’s a hell of a way to jump start wealth building that is absolutely impossible with stocks.

    All the arguments above that leverage = risk are technically correct… But there’s a huge difference in the amount of risk between margin loans and long term fixed mortgages. Your mortgage can ride out highs and lows without being called. You can generally get more leverage than any margin loan product I’ve ever heard of too. The risk is objectively far lower than with margin loans. This is simply reality.

    If comparing a typical “real world” scenario, doing things the way most people do, RE simply makes better returns. NOW TO BE FAIR RE also takes more time and involvement, it’s not completely hands off. So that’s part of why the returns are better. But if one simply wants to talk about returns alone then one must conclude that under TYPICAL scenarios, not made up laboratory petri dish scenarios that don’t often happen in real life, RE will out perform stocks for most people most of the time.

    As I mentioned in a post above think about how many people you have known in your life who became multi millionaires via real estate. Many started with just regular jobs, and started investing. Now ask yourself how many people with normal incomes you know who became very wealthy by tossing money in their 401K or (even worse for most people) trying to pick stocks. I bet everybody here can think of tons of people who made millions in RE, and probably not one person who made it in stocks, although there likely are a few.

    I can’t even remember all the RE millionaires I know. Dozens and dozens. Too many to remember all the ones I have known in my life! Many in the 10s of millions, at least one over 100 million… And even a billionaire, although he started out inheriting a reasonably large RE mini-empire so he isn’t exactly self made. Leverage is the reason for this.

    Stocks have their place as diversification, and as a truly hands off investment… But again if one wants to compare returns alone, discounting all the other pros and cons (they both have them!), leveraged real estate wins in almost every scenario.

    • Vaughn K.

      Are you talking to me Christopher, because you didn’t reply to my post directly. If so Buffett (with two Ts, not one) doesn’t refute a single thing I said, and neither can you. Why? Because everything I said is based off of math, logic, facts, and how things work in the real observed world.

      1. Buffett is NOT a typical stock investor. He is literally THE VERY BEST investor in the history of mankind. So trying to use him as an example of what a normal Joe can do is absurd. He has made around 3x the average return of the stock market over a period of more than half a century. That’s not normal, in fact not a single other person on planet earth has ever done as well. Using him as an example of a typical stock investor is like saying that everybody who starts a software company will make Bill Gates money, everybody who starts a Social Networking website will make Mark Zuckerberg money, everybody who starts an online retail company will make Jeff Bezos money, AND EVEN everybody who gets into real estate will make Donald Trump money. Those are all very ridiculous assumptions to make for obvious reasons. So Buffett being the best investor of all time, who happened to do it with buying companies and stocks (see #2 because he doesn’t mainly just buy stocks!), says nothing about typical returns for stocks or RE.

      2. You must not know much about what Buffett actually did/does… Most of Buffett’s deals are deals no normal person even has access to. Most of his investments have been him buying out entire PRIVATE companies lock, stock, and barrel. Sometimes buying out public companies completely as well. Usually very large companies worth 10s of millions to billions of dollars. He buys them strategically when he sees the ability to expand them considerably over a long period of time with the right amount of cash invested into them from his coffers too most of the time. Average Joe doesn’t buy Sees Candy outright and then pump billions into it for expansion over decades! In other words he is giving guidance and direction via his having control of the management of the business. He’s not hands off like somebody buying into a 401K. He’s really a mergers and acquisitions guy more than a mere “stock picker” as many like to think. Not repeatable by some guy with a 75K a year job throwing some dollars into the market. He does invest in public companies as well, but even then he often goes in and buys so much of a company he can call up the CEO and tell them to change direction if he doesn’t like how they’re handling things. Again normal folks can’t do this. Also I would add that in the past, before he ended up with so much cash he didn’t even know what to do with it, he also strategically used DEBT to finance many of his acquisitions. Again not typical 401K guy behavior.

      So talking about what Bill Gates, Warren Buffett, or Donald Trump have done is completely irrelevant to a discussion about typical results for normal people at the level of a few hundred grand or a few million bucks.

      It is a mathematical fact that for a normal plain vanilla real estate deal with 20% down and a 30 year mortgage you will make better returns than the stock market over that 30 years, assuming you don’t buy in an area that is actively in decline. Keeping up with inflation alone and the rent roll makes it basically a guaranteed thing. Especially if you refi and pull out cash every several years to reinvest in additional property to keep your leverage high-ish and the growth strong. There is no loan product, other than perhaps taking out unsecured personal loans (which would be too high interest to be worth it anyway…), that allows you to leverage stocks like this that doesn’t have tremendous risk during the frequent downturns the NYSE experiences.

      Think it’s “crazy” to talk about ANYTHING being consistently higher than stocks??? It’s not. There are tons of things that are, including real estate… But they usually require more hands on effort, AND often are not quite scalable to the tune of billions while retaining such high returns. Returns usually either shrink or the venture becomes unmanageable at higher dollar amounts. Think about Pawn Shop return rates, they’re crazy! WAY better than the NYSE or even Buffett. But it’s pretty tough to scale that to billions. See what I mean?

      I own a business, and have had several others previously, and my dad has owned businesses my whole life too. You know what else blows doors on the stock market? Buying private businesses. You could hop on Craigslist RIGHT NOW in your area and there is a 100% chance you can buy any number of local businesses that will give you an unleveraged 20-50% annual return. In my industry businesses typically sell for 2-5 times annual profit, depending on the particulars. This is very common for many types of small business. Many of them are even turn key absentee owner (owner doesn’t work in the business) too, so they are somewhat hands off.

      So go buy a local coffee shop that’s been there for 20 years and has steady profits, it’ll probably return 20-30% with no leverage! Better than Buffett!!! If you DID take a loan out to use leverage your COC could be even better. You could then buy a 2nd, and a 3rd, and a 4th…The issue being you can’t scale that to billions and maintain those rates of return. But you CAN scale it to maybe a few million bucks depending on the industry, like maybe buying out a dozen hip indie coffee shops in a decent sized city. Or dry cleaner shops, or convenience stores, or whatever. It’s more hands on, but it blows the NYSE out of the water.

      According to The Millionaire Next Door the number one thing that mints millionaires is owning a small business, because the returns you can make investing privately can be crazy. I have made a thousand small investments in my businesses over the years that have netted me 100%+ annual returns. This is for new equipment, expansion, etc. Right now a side hobby business I started about 3 years ago is growing at about 300% a year. This year is still pretty “So what, it’s barely even bringing in 6 figures,” but another few triplings (if I can scale it while maintaining margins) and it’ll be a 7 figure a year business. If I can do that for another couple years after that I might get proper rich pretty quick. Time will tell.

      Number 2 source of wealth creation from the book IIRC is investing in real estate. Those were real stats they collected. Most millionaires reported owning stocks, but almost nobody said that was “the source” of their wealth. There is a difference.

      There are tons of things that are better than stocks, but most require more expertise or more hands on involvement. They also tend to not scale to billions of dollars. I’ll admit all that. Real estate is great for NORMAL people because while it’s tough to scale to the tune of BILLIONS while making high double digit returns, it IS NOT tough to scale it to the tune of a few million while making those kind of returns. This is why there are tons of millionaires that made it in RE, but according to Forbes only 9% of the people on their billionaires list made it in RE. Scale matters. At the couple million dollar level there are lots of things that can beat the stock market if you learn the ropes, but most of them just don’t scale endlessly.

  16. Christopher Smith

    The comparison to Buffett is not absurd as he himself says. He explains at great length that he is a person of very normal intelligence, just extremely well disciplined and that anyone of a generally similiar level of intelligence can do exactly what he did no equivocation.

    You also keep distinguishing between stock ownership in a small business and portfolio investing as if they are clearly distinguishable. Buffett explains at length why this is simply not so, that for the intelligent investor they should be viewed the exactly same and if you don’t view them the same you will likely fail at either or both. Read his books.

    • Vaughn K.

      Buffett might like to play it up like he’s just a regular guy… But he’s clearly not. He may or may not have a high IQ, but if he doesn’t he certainly has an idiot savant for investing. If it’s soooo easy to pick companies to buy then how come NOT ONE SINGLE OTHER PERSON ON THE PLANET has been able to do as well as him over any length of time? I rest my case. He’s the best, and if he says “Anybody can do it with enough practice” that’s like Michael Jordan saying the same thing about his basketball skills to encourage people to try their best, which is a good thing, even though they both know most people will never REALLY be anywhere near as good as them.

      Investing in the stock market was what was being discussed in this article and in most of the comments, which is why I mostly mentioned that. The distinction between public and private companies is one that is generally used and accepted, because there are large differences in legalities, and simply how easy it is to find/invest in private businesses, and other factors. There’s a reason “private equity” is a term, and many firms specialize in just that niche. It’s its own world.

      As I said in my own post you CAN totally buy small/mid sized private companies and make AMAZING returns. I won’t argue against that point. Buffett is right that one should not overlook it as an option if one has the skills/capital for it. But that’s not the same as investing in the stock market. It’s an entirely different beast. If somebody wants to argue that investing in private equities is as profitable as real estate, I would entertain that as a real possibility. But it is again a lot more hands on exercise, and you need more capital and experience than just putting some cash into the NYSE.

      But throwing money into a 401K is not going to match real estate, which is what this original discussion was really about.

  17. Steve Vaughan

    Definitely the most in-depth analysis I’ve seen, Brian. Well done!
    I was listening to a FI blog podcast. The anonymous blogger was saying stocks are better, but he left put leverage. The example was a house purchased in 1983 is now worth $1M, but that much invested in the S&P would be worth more.
    Yeah, but $37,000 became $1M, not $185,000. Would have been a better example if it was a rental that just broke even.
    Here’s what I know. I invested $25k each into a 10unit mixed-use bldg and $25k in growth stock mutual funds in 2003. The building never costed another cent, provided years of cf, is paid off and worth $550. The mutual fund is worth $128. Analyze that stock guys. LOL The mf never moved out or called me with drama, but I consider it a value I was compensated for. Good article!

    • Brian Davis

      Great personal example Steve! And I’m very glad to hear to hear that the multifamily has worked out so well for you. I might reach out by PM to hear more about your story, could be a fun case study to write up.

  18. Dave G.

    Awesome article, one of the better ones I’ve ever seen posted on BP.

    As an econ undergrad and macroeconomics geek, I love the use of raw data and facts versus opinion and speculation (why I hate the media, especially CNN).

    Great job!!

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