In the world of absolutes, you almost always need to have a definitive answer for why you’re committing to one side or the other.
The conversation for Stocks Vs. Real Estate is not new by any means. It is one of the oldest debates in the investing world.
I’ve been investing in Real Estate ever Since I graduated college and here’s exactly why I would prefer index funds over real estate as an investment.
More Predictable Returns
Index funds offer returns that mirror the performance of their underlying index, making their returns more predictable over the long term compared to real estate, where market fluctuations can significantly impact property values and rental income.
The index fund historically has provided an 8% annualized return year over year since their creation over 20 years ago.
Whereas with real estate you might find a home run where there’s never any major problems and you always have good tenants, but mix that in with the bad properties where you have a handful of vacancies and plenty of expensive repairs, the gains you might see are almost always washed with the losses.
I don’t know about you but to have some kind of investment where every single year you’re going to see an 8% return is pretty great.
Now of course there are some arguments to be made that you will on average see a slightly higher percentage in real estate.
A lot of this is Due to forced appreciation where you handpick projects that will historically enhance the value of the property.
For example, paint, kitchens, bathrooms, and some standard flooring projects are almost always the first go-to renovations to increase the value of the property. But even then there areplenty of cases where the juice is not worth the squeeze.
Also, I do not find value in actively managing my real estate portfolio so for the amount of time spent keeping up with your tenants, it just doesn’t seem quite worth it for me.
So purely as an investment standpoint, index funds win for me in terms of predictability.
No Expensive Repairs/Upkeep
Unlike real estate investments, which can incur unexpected and sometimes hefty costs for repairs and maintenance, index funds do not require ongoing financial input beyond the initial investment.
This absence of upkeep costs makes index funds more appealing to those looking for a maintenance-free investment.
Last year alone we spent well over $17,000 which included a three-month vacancy, an HVAC purchase, and the costs to get the property rent ready for the next tenant.
We are going to need a roof replacement in the next few years as well as some other cosmetic fixes like paint. That will likely be another $10,000 at least.
So when you add up the costs for the property (Well over $50,000) in relation to how much we’re making in monthly cash flow ($388/m at the time of this writing), it will take us at least 10 years to begin seeing some level of net profit for our cash flow. Not great haha
Of course factoring in appreciation helps soften the blow a bit. But just in terms of capital invested, we are in the hole big time.
Simplicity
Investing in index funds is straightforward — you select a fund that tracks your chosen index and invest.
There’s no need to deal with property listings, negotiations, inspections, or managing tenants. This simplicity is a significant draw for investors who prefer a more hands-off approach.
Index funds are simply a combination of some of the most consistently performing stocks. By buying into a combination of hundreds or even thousands of them, you’re almost guaranteeing you will see an 8 per cent return annually.
The same cannot be said about real estate where there are a lot more managerial tasks that you will need to take on once you buy your property.
Peace of Mind
The combination of diversification, predictability, and the lack of active management provides investors with peace of mind.
Knowing your investment is not contingent on the performance of a single asset or your ability to manage property issues can be reassuring.
When we had a vacancy on our rental property for three months, at least once a day the thought crossed my mind of when we would get a tenant in place.
There were at least five different interested parties. Many of whom had insane requests that we need to do in order to make it make sense for them.
Plenty of renters came back with a disrespectfully low request on rent and terms. Just a pro tip anything you do in business is either done on price or terms but you can’t have both. So a lot of these people that were wanting to stay at OUR property were unrealistic in their expectations.
My favorite thing about index funds is I literally spend 0 time after purchasing them keeping up with it.
Cost-Effective
In addition to lower entry costs and transaction fees, index funds also avoid the myriad of costs associated with real estate investment, such as property taxes, insurance, and management fees.
This cost-effectiveness is a key factor in their attractiveness.
I have easily spent $50,000 on just one property just to make it look good, and standard for renting it out. If I could go back in time, I definitely would have put most of that money somewhere else.
One of the most attractive parts about index funds is you can get started with as low as $1
My personal preference is to invest through Charles Schwab since they provide both bank accounts and a brokerage so you can invest and save your money.
Time Is The Only Variable
For index fund investors, time is the primary factor influencing returns. The longer you stay invested, the more you can benefit from compound interest and market growth.
Real estate investments can also appreciate over time, but they may require active management and additional investments to maintain or increase their value.
There’s an old saying that time in the market beats timing the market.
Simply put, by you keeping it simple, putting funds in, and just sitting back and relaxing, you will be able to consistently perform well especially when you’re looking at a 20 year and longer time horizon.
Eventually, the compounding return of your funds will start to snowball and you’ll be in a position where your gains are outperforming your average annual expenses.
Historically, the people who tried to beat the market by making quick short trades rarely ever outperform a standard index fund. when all time and costs are factored in
Not to mention the amount of time they’re spending every single day to get back a few extra percentages is canceled out because the people who do absolutely nothing after buying their indexes debatably earn more per hour
Diversification
Index funds, particularly those tracking major market indices, offer instant diversification across hundreds or even thousands of stocks. Like SWTSX or VTSAX which has over 3,000 stocks in the portfolio so you’re getting a little bit of everything.
This spreads out risk, as the performance of any single stock has less impact on the overall investment.
Real estate investments are typically concentrated in a single property or a small number of properties, which can increase risk.
This hits home for me because very recently one of our real estate properties had a vacancy which means that for three whole months 100% of our income for that property was gone.
You can mitigate this with scaling your portfolio or intentionally buying multifamily. But even then, the even with one vacancy out of four total units, you’ve dropped your revenue 25%.
Comparatively to index funds, let’s say 10 companies within the S and P 500 underperformed for three months, That’s 2% of your entire investment. It’s so insignificant you don’t even notice it.
Especially if the other 490 stocks make up for the lack of performance, you’ll likely even see a positive return in those three months.
Liquidity
Index funds are generally highly liquid, meaning investors can buy or sell shares quickly without a significant impact on the price.
Real estate, on the other hand, is a very illiquid asset.
Selling a property can take months or even years, and the process involves substantial costs.
Just yesterday I needed some funds for an upcoming purchase, I sold off some stocks, got the capital the same day, and was ready to go.
The only feasible way to get capital without selling your real estate is to get a Home Equity Line of Credit (HELOC for short)
Otherwise, you’re pretty much out of luck.
Lower Entry Cost
Investing in index funds can require a much lower initial investment compared to purchasing real estate.
Many brokerage firms allow investors to buy fractional shares of funds, meaning you can start investing with a small amount of money.
Real estate requires a significant upfront investment for down payments, closing costs, and other expenses.
Anybody can set up an account through any major brokerage and start buying Index funds ASAP. My preference is Charles Schwab for many reasons. They have $0 account minimums, no Atm Fees and no international transaction fees. Great for digital nomads 😉
One of the best things about Indexes (or many of them) is that you can invest with as little as $1. I love SWPPX for this reason through Schwab and removes the biggest barrier for everyone, cost.
Index Funds are Truly a Passive Investment
Index funds are often seen as a passive investment strategy. Once you invest in the fund, there is no need for active management on your part.
To me this was under appreciated at first period I used to laugh at the people that were so proud in their passive involvement in their investments. I’ve gotten older and I’ve definitely spent my fair share of time keeping up with investments, the more I appreciate the simplicity of index funds.
I have a hard time finding an apples the apples comparison to indexes where you can put money in, and almost guarantee that you will see an 8 to 10% return annually.
Time is our most valuable asset so we must protect it. If I was to add up all of the time I spent through all of my past endeavors I might squeak out with a $1 per hour rate. (Or Lower!)
Likewise with index funds. I’ve set all of my purchases up automatically and withdraw from my main checking account at a set time every single month.
Without me lifting a finger an auto purchase has been made on my behalf and I quite literally can sip Piña coladas on the beach while I continue to grow wealth and make more money over the long term.
Real estate can be much more hands-on, requiring dealing with tenants, maintenance issues, and other management tasks, unless you hire a property manager, which then cuts into your returns.
Not to mention they will still email you In the event that there’s a repair that needs to be done for approval and if you’re screening tenants to get your approval & off for.
While some real estate investments can be made more passive through the use of property managers, index funds require no active effort after the initial investment.
Lower Transaction Costs
Buying and selling shares of index funds typically come with lower transaction costs compared to real estate transactions, which involve commissions, inspection fees, legal fees, and other closing costs.
Some brokerage accounts even offer commission-free trading of index funds.
For me personally, I buy SWPPX which is Schwab’s S&P 500 Fund. The Expense ratio (management fee) is .02% and the performance is based on the largest and most successful company’s in the United States.
They have one of, if not THE lowest fee structure out of any index fund out there.
Plus I can buy $1 worth of the fund. This is equally great that they have no minimums since ANYONE can get started today.
If you would also like to set up a free, no fee account with Schwab, feel free to to so here.
I’ve been using Charles Schwab for years now and won’t go back to Fells Wargo or any other large bank.
Now that I’ve shared my thoughts on Index funds, which moving forward, I believe is going to be my core investment strategy to build wealth, it’s only fair to share my thoughts on real estate and my experiences from it.
The Case For Real Estate
Now I’ve owned property for over five years now so I’m not naive to the fact that there’s definitely some benefits in real estate.
A lot of the benefits to me happen when you get a property manager in place. Oftentimes you will hear people scream from the mountains that they don’t want to clean toilets at 2:00 AM in the morning.
I’ve never touched a toilet and don’t plan on it. I’m more than happy giving my property management company a percentage of rent to not have to deal with client management.
I don’t think the conversation between index funds and real estate needs to be one or the other? Why can’t you have both?
I think if you tap into the best of what both industries have to offer you will be able to progress exponentially faster in your wealth accumulation phase.
Below are my favorite things that I enjoy about real estate when compared to index funds.
Leverage
Leverage is one of real estate’s most compelling features, allowing investors to control a large asset with a relatively small amount of capital (the down payment).
For many people including myself, this is the most important difference between index funds and real estate.
This means you can acquire a property worth several hundred thousand dollars by paying a fraction of the total cost upfront, with the potential for the property’s value to increase over the full amount, not just your initial investment.
Properly utilized, leverage can magnify returns significantly more than is typically possible with index funds.
To me, the only properties that make the most sense financial are house hacks or ones that you can live in and rent out other units in the house for.
Otherwise, paying 20% down on a property to then need to spend thousands more to keep up with it doesn’t seem as worth it.
As mentioned we got our first property for 3.5% down and then we acquired our second property for 5% down.
We then rented out the garage apartment that came with the property and listed it on Airbnb.
Through that we were able to reduce over 80% of our out of pocket costs on our home every single month. That way we were able to get extremely cheap living expenses.
You’re going to need a place to sleep anyway so you might as well create an income from it.
You just can’t do that with stocks. (You can buy stocks on margin which I definitely would not recommend)
By the time we decided to buy our second house we used the equity from the first property to roll over into the 2nd house effectively making our total out of pocket costs $0 because we used money that was gained from our previous home without our direct involvement.
Leverage is by far one of the most powerful tools in Real Estate.
Tax Advantages
Real estate investing comes with numerous tax benefits that can significantly enhance the investment’s attractiveness.
Depreciation allows investors to reduce taxable income by accounting for the property’s wear and tear.
Additionally, mortgage interest deductions, property tax deductions, and the ability to defer capital gains through mechanisms like the 1031 exchange can improve the investment’s after-tax return.
There’s a reason Donald Trump doesn’t pay any taxes. The Tax Code specifically favors those who invest in real estate.
Typically, by the time you have three properties is in many cases enough to offset someone who earns $100,000 a year (Consult with a CPA and a CFP, as i’m not a financial advisor, just a financial enthusiast)
Tangible Asset
Real estate provides a physical asset, which for many investors translates to a perceived sense of security and control.
Unlike stocks or bonds, real estate is an investment you can see, improve upon directly, and utilize in various ways (e.g., rental, primary residence, commercial use).
This tangibility can offer psychological comfort and a sense of stability that intangible assets might not.
This isn’t a massive focus for me but again if I’m going to need a place to live, I might as well generate revenue from it.
Cash Flow
Real estate investments, particularly rental properties, can generate consistent monthly cash flow from tenant rent payments.
This income can cover the property’s operating expenses, including the mortgage, while providing extra income for the investor.
Over time, as rent prices increase and the mortgage balance decreases, the cash flow can grow, providing a steady income source that can be particularly appealing for retirement planning.
This is extremely helpful because you don’t have to sell any assets in order to realize these gains. You get this money every month like clockwork.
Appreciation and Forced Equity
Real estate values tend to increase over time, known as appreciation, which can significantly boost an investor’s equity without any additional outlay.
Additionally, investors can create forced equity by making improvements to the property that increase its value well above the cost of the improvements, something not directly possible with index funds.
This is another aspect that I do enjoy with real estate. You have more influence over the property values and the ability to get a consistent return on dollars invested.
We’ve put in around $40,000 into our first home and the home value has gone up $100,000 which we then got a HELOC for. That way we can tap into 80% of the equity for renovation purposes.
Appreciation is not something I would rely on as an investment strategy unless you know you’re going to hold the investment property well over 15 years.
Investing for appreciation is a long game and should be seen as more of a cherry on top as opposed to the sole focus.
Inflation Hedge
Real estate often acts as an effective hedge against inflation.
As living costs rise, so too can rent prices and property values, maintaining the investment’s purchasing power.
This contrasts with some other investments that might not keep pace with inflation over time.
As prices keep rising, it’s fairly simple to raise your rents to reflect that. Now if you’ve got a great tenant in place who always pays on time, it’s worth considering keeping their rent the same.
A vacancy is much more expensive than the $100-$300 bump in rent a month.
These are my personal viewpoints on stocks versus real estate. I currently have two rental properties both acquired through primary residence loans.
I‘m definitely a big advocate for real estate and what its allowed us to do But looking back I’ve definitely spent my fair share of time grinding away for years in order to make roughly the same amount of money as if I were to just put money away into an index fund and let it ride.
As humbling as it is to say that, I genuinely believe that the best use of time and money is to keep it simple, invest in an index fund and let time be your friend here.
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