In 2006, when the market was still in an upward trend, I had 80% of my money invested into stocks. However, in 2007, when I felt that the stock market was in a bubble stage, I decided to sell most of my stocks, and thus avoided the 2008 stock market crash.
I also invest in real estate. In fact, investing in property has its own risks and characteristics. Let me share with you the differences between Stock Investing and Property Investing:
If you own stocks with a market value of $1 million, the maximum loan that financial institutions might be willing to grant to you, using your stocks as collateral, would be a maximum of 70% of the market value of the stocks.
On the other hand, when you buy a property, Banks are willing to grant you loans up to a maximum of four times your equity. For instance, if you put down 20% of the property price as a downpayment, the bank can grant you up to maximum of 80% financing, or 400% of your equity, to finance the property purchase.
If stock prices fall, and the value of your holdings drop from say $1 million to $800,000, the banks would call you and ask you to “top up” $140,000, to keep the loan to collateral ratio of 70%. This is technically known as a “Margin Call”. If you fail to top up the amount in time, the bank will force you to sell your stock to meet the shortfall.
However, if you buy real estate, even if property prices fall, usually as long as you can pay the mortgage instalments, the bank will not bother you at all.
The above differences in the treatment of loans for stocks and property clearly show that to the lender, the risk seems much lower for real estate compared to stock investing.
If you have the ability to hold for more than 10 years, you will usually not lose money in real estate, since in the long run property prices typically rise and can keep pace with the rate of inflation.
But if you buy stocks, when the company runs into financial or cashflow problems, even if you “faithfully” hold the stock for 10 years, it is still possible to make losses to the tune of 80% to 90%. For instance, in year 2000, during the technology bubble, many stocks relating to technology were trading at high prices. In year 2010, 10 years after the technology bubble burst in March 2000, the current market value of some of these stocks are just about 10% compared to its peak in year 2000. There are even some listed companies that faced the misfortune of closure, and the company’s stock holders may get back nothing from their investment in the stocks.
So if you want to make money in the stock market, learning how to choose and select the right stocks to invest in is very important.
However, for many people who have no knowledge of investments, if they hold on to real estate for decades, they might still be able to profit from it, because it is impossible for the value of a property to fall to zero, while a stock might actually fall to zero if the company collapses.
If the price of a stock is $1, there is no way for you to pay below the market price of say, $0.90, or 10% lower, to buy the stock. However, if you buy real estate, it is possible for you to buy 10% lower than the market value of the house.
Why do some property owners sell the property despite the sale price being 10% lower than market value? There can be many reasons: ignorance of the current market value of the property can be one reason, they may be in a desperate need for cash might be another reason, or there can be other reasons, such as sale due to divorce or other situations.
If you purchase a stock today, and let’s say the share price is $1, can you do anything to increase the value of the stock by 10%? The answer is no.
You can only hope that the company’s business will improve after you bought the stock and its share price would rise when that happens.
But if you buy a property, there are many ways you can enhance the value of the house. It can be as simple as giving the property a fresh coat of paint, division of space to add a room to increase rents, or even doing some minor retrofitting and renovation. All these actions are likely to enhance the value of the house.
Imagine if you want to purchase an item, but are only willing to pay the downpayment, and let someone else help you pay the balance. Can this be done for stock investing? Of course not. But if you think about it, when you invest in real estate, you just pay a 20% downpayment, and the balance of up to a maximum of 80% of the purchase price can be taken as a loan, and the monthly housing loan repayment can be “reimbursed” from the rents collected. As a result, the balance of up to 80% of the price of the property is actually “paid” by the tenant for you!
Let me use a simple example to illustrate. For instance, you buy a $1 million property and borrow 70% of the purchase price, or $700,000. Suppose you choose a loan period of 25 years, and the average housing loan interest rate is 3%, the monthly housing loan repayment is $2,655. If you can rent out the house for $3,000, then your tenant actually is helping you to pay the housing loan instalment!
When asked whether McDonald’s business is to sell hamburgers, management replied that they are really investing in real estate, and using the sale of hamburgers to earn money to buy real estate!
Most people dream of being Warren Buffett. However, most stock investors are losing money. According to CPF data, most people with a fund investing in stocks have ended up losing money. On the other hand, except for some special cases such as buying a house at the peak of the market, it is difficult to find a real estate investor who has held for more than 10 years who is still making a loss.
I hope the above helps you understand better the differences between stock and property investing. But if you want to get rich, learn BOTH. The Really Rich and Smart ones, invest in Both Stocks and Properties.
There are times when Stocks are a Better Investment, and times when Properties are better investments. So invest in the Right thing at the Right Time.
For instance, for the next year or so, I personally think there’s more upside to investing into Stocks than Property. Let’s look back in time in future to see whether I’m right on this.