Putting together an investment portfolio takes weighing the pros and cons of the various options, as well as finding the best way to go about making those investments. It isn’t just a real estate vs stock market decision, although that is the fundamental building block upon which all other decisions are based. There isn’t a tried-and-true method that works for everyone. You can choose to follow the real estate driven method of “The Donald” Trump or the stock market method of Warren Buffet, or perhaps come up with a blend that works for you. The important thing is that you acquaint yourself with the nuances involved. For many savvy investors, real estate is making a lot of sense in today’s economic conditions. There are a number of reasons why many are turning to the income and security of real estate more than the stock market.
Income Flow Plus Appreciation
When you put your money into stocks, you may or may not receive a stock dividend each year. Furthermore, there is no guarantee that the stock you own will continue to pay a dividend even if it has done so historically. You further have no assurance of what the dividend will be from year to year. According to the December 16, 2015 Factset Dividend Quarterly, “Analysts are projecting that DPS (dividend per share) growth for the S&P 500 will slow to 6.5% in the next twelve months.” They further note that the number of companies decreasing their dividends has increased.
Add to that the uncertainty of the stock’s value and you have no guarantee that your investment in the stock market will grow even enough to keep up with inflation, much less provide you with a profit. The value could even go down.
You also have to decide whether to go with dividend paying stocks that typically underperform in comparison to non-dividend payers in terms of cumulative return. So, do you want the income flow potential or do you want the return potential?
With real estate you do not have to choose one over the other, because the value of an income producing property is intrinsically tied to its income flow. The better it produces an income, the more valuable it becomes. In fact, taking an underperforming property and creating a higher income flow is a popular way to “flip” certain types of real estate.
Ease of Diversification While Protecting Returns
In order to provide for diversification in the stock market, you need a number of stocks spread across different economic sectors. Most stock and bond investors accomplish that with mutual funds. Unfortunately, for the most part you won’t beat the market investing this way. You may reduce risk, but they often underperform. According to a March 12, 2015 article in CNN Money by Matt Egan, “86% of investment managers stunk in 2015” and “nearly 89% of fund managers underperformed their benchmarks over the past five years and 82% did the same over the past decade.”
On the other hand, when you opt to diversify in real estate investing by going with real estate income funds or real estate mortgage funds, for example, you not only provide for the security that comes from diversification but you’ll also receive an overall return quite similar to the what the entire industry is enjoying. While there are fees, just as there are with mutual funds, the reduction in risk makes these an attractive investment.
Stock market investments result in tax consequences both on the dividends you receive each year and a capital gains tax when you sell the stock. You have to make a pretty decent gain to net the return on investment you want after you pay the taxes on the gain, and this leaves you less money left to invest in the next stock. It can be challenging to build wealth that way.
There are also taxes on real estate transactions, including tax on income flows and again a capital gains tax when you sell. However, current tax law provides for a 1031 Exchange. This allows you a set period of time to purchase your next real estate investment and roll the gain along. While you will have to pay it eventually, this ability to keep using your profits to grow gives you a better avenue for building wealth.
The idea of making money using someone else’s money is not a new idea. It can be very lucrative to use leveraging to broaden your options and provide for wealth building. There are ways you can use leveraging to invest in either the stock market or real estate.
To do so in the stock market, you won’t be able to go down to your local bank and ask to borrow money to invest in stocks. If you are going to do it in the stock market, you’ll have to either borrow from friends or family, or trade on margin using a margin account with a stock broker. It is the broker that is lending you the money, but you’ll have to have collateral in place, namely a portfolio with them. You will also need to have enough liquidity to cover the required percentage of the stock purchase price. While buying on margin is a way to spread out your available funds making it easier to diversify, it is also one of the most risky ways to invest in the stock market.
One way leveraging is used in real estate is to diversify. If you had $100,000, for example, you could purchase one property for that, or you could put $20,000 down on five different properties and borrow the rest. You have spread your risk out and provided for five different income flows. It is far safer to use leverage to purchase real estate than it is to trade on margin in the stock market.
There is just something more alluring to investing in real estate than the stock market. Looking at a piece of paper doesn’t provide the same psychological bond as looking at a building and saying, “I own that!” Even if you put all the other benefits aside, this is enough for many investors to choose real estate investing over stock market investing. When you add in the income and security that real estate investing can bring you, it just makes good sense to emulate Trump instead of Buffet in today’s economic conditions. They are both incredibly successful billionaires, and although Buffet far exceeds Trump in net worth, it just seems like Trump has a lot more fun at it.
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