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Property vs Shares: The Ultimate Guide

Property vs Shares: The Ultimate Guide

Preface: When I talk about shares in this article, I really mean ETFs. I don’t buy individual shares or day trade.


Collingwood vs Carlton

Sydney vs Melbourne

Magic vs Bird

 

Magic vs bird

Just some of the biggest rivalries the world’s ever seen.

But in the investing world, there is not a more hotly debated topic among avid investors. Property vs shares is a topic that everyone seems to have an opinion on, no matter how ill-informed they are.

Owning 3 investment properties and nearly $90K worth of ETFs (shares), I feel I have tasted the best of both worlds (and the worst) and can give you perspective to what I’ve learned over the last 5+ years of investing in these two asset classes. Both are great when used right, with pros and cons for various financial situations/types of investors.

But which one is right for you?…

 

Contestant 1: Property

house

The hometown favorite. This guy has been around longer than the stock market has existed!

You can touch and feel him, and your mum most likely loves the idea of you being with him. He has a strong track record in Australia and there is a firm belief that his value never goes down.

Now for realz:

Property is a great investment class but you need to be the right type of investor and have the financial stability for it to be used correctly. It’s an active investment. You’re going to have to do some sort of work to keep this investment running. You can minimize the work needed by hiring people but there are still headaches trust me.

However! Property has BY FAR the most potential to accelerate your wealth compared to shares for three reasons.

  1. Cheap leverage
  2. Ability to physically add value to your asset
  3. Skill and experience actually mean something (more on this below)

Cheap leverage is often misunderstood. Too often an article is published with statistics on how shares have outperformed property by comparing the % of capital growth and rental/dividend returns.

This is a dumb way to compare the two because I don’t know any property investors that buy real estate outright. It’s almost always bought with a loan. Which means the asset is leverage.

But what does this have to do with returns you might ask?

Here’s an example (for simplicity we are ignoring buying and selling costs and tax):

Property 1 is brought in 2016 for $500K with a 20% deposit of $100K. That same investor also buys $100K of shares in 2016 too.

Fast forward 1 year and the house is now worth $600K and the shares worth $150K

Let’s make it simple and say that the shares have no dividends and that the house had $0 net gain/loss factoring in everything.

The shares made a whopping 50% return in one year. The property on the other hand only made a 20% return.

Which investment did better?

Going percent wise the shares beat the pants of the house. More than doubled its return. But hold on.

If we actually compare how much money each investment made, it tells a different story.

It cost the investor both $100K to buy each asset. Property made a total of $100K in a year whereas the shares only made $50K.

 

 

thinkingmeme

 

This is because of the power of leverage. You technically can leverage with shares but not for the same cheap rate and you get nasty margin calls which you don’t get with property.

The ability to physically add value to your asset is where I would say active investors have a clear choice with which investment they choose.

Sweat equity is a proven wealth building technique that’s been around for centuries. You would have to be extremely unlucky to physically add value to your property and not have it go up in value.

Experience and skill is a very interesting point to look at when comparing shares and real state.

The entire premise of index-style investing goes something along the lines of:

“It’s impossible to beat the market over a long period of time unless your names Warren Buffett. Even if you do manage to do so, it’s almost always luck. People spend all day every day studying stocks and graphs and still get it wrong. So what hope do you have as an ordinary Joe Blow? Don’t even try to become a master of the stock market because there is only such a very very small percent of humans alive that seems to be able to get it right the majority of the time”

Now, here’s the difference. Skill and experience actually matter in real estate.

A skilled and experienced property investor has a very good chance of repeating his/her success over and over again. In fact, they most likely get better at it as times goes on. The same cannot be said for the stock market (except for those very rare people like Buffett). A skilled and experienced property investor will beat the pants off a skilled and experienced stock trader over a 7-10 year period 9 times out 10.

You can’t really be skillful in picking stocks. You definitely can’t be skillful in picking ETFs either. Sure, you can be smart about your allocations to reduce risk. But it’s not like an ETF investor of 30 years is going to blow out a brand new ETF investor in terms of returns. In fact, they should get relatively the same return. And that’s not a bad thing either.

 

 

Contestant 2: Shares

3 things.

  1. Diversification
  2. Low buy in and selling costs
  3. Easy peasy with hardly any management required

Have you ever heard the phrase ‘don’t keep all your eggs in one basket’?

The stock market gives you the ability to buy things called ETFs which is a slice of a lot (>200) of companies bundled up into one very convenient share. So instead of buying 200 individual shares. You can just buy things like ETFs and you get that vast diversification in one transaction. Couldn’t be any easier.

And the good thing about the stock market is the low buy in and sell costs. I pay $20 for around $5K of ETFs. Times that by 40 and I would have paid $800 for $200K worth of shares.

Think about how much it would cost you to buy a unit for $200K. Probably around $10K if we use the 5% rule.

And then you would have to sell it for anywhere between 2-3%.

When you want to sell shares there is another brokerage cost of around $20 per sell (depending on how much you sell).

This low buy in and sell costs are very convenient when compared to real estate.

And the last point I want to make is also one of the most important points. How little of your time and effort you have to put in for it to make you money.

 

You buy some shares, ETFs of course and turn on DRP (dividend reinvestment plan) .

You sit back.

Walk the dog.

Go on a holiday.

Get married.

Have a child.

And check up on your shares after about 7-10 years and get a pleasant surprise that on average, they have increased by around 9%

They only thing required during these 7-10 years is declaring the income earned through dividends on your tax returns which you can download electronically. No need to keep your own records.

THAT’S IT.

You didn’t have to manage anything and your investments returned a respectable 9% over 7-10 years. This extremely low management style is a phenomenal advantage.

 

 

 

Pros and Cons

 

Property

 

 Pros  Cons
  • Leverage on low-interest rate
  • Ability to physically add value to investment
  • Skill and experience can be leveraged
  • High return potential for an active investor
  • Tax advantages such as neg gearing, depreciation and PPOR capital gains exclusion
  • Good protection against inflation
  • Less volatile than other asset classes
  • Active investment.
  • Requires a lot of capital to get started
  • Big buy-in (5%) and exist (2-3%) costs
  • Not diversified. One asset class in one location
  • Loan stress
  • Potential for things to go wrong. Leaking pipes, dog pees on the carpet, house burns down etc.
  • Not very liquid. May take you 6-12 months to cash out of this investment
  • Cash flow dependent. Needs a big buffer for incidents
  • If something goes horribly wrong. It can ruin you financially

 

 

Shares (ETFs)

 

 Pros  Cons
  • Passive investment. Very little time and effort involved (less than one day a year)
  • Extremely diversified
  • Low entry and exit fees
  • Very liquid. Can break up shares and sell only a few units if that’s what you need
  • Easy peasy to do a tax return. No bookkeeping required
  • Franked dividends
  • At worst you can only lose what you have invested
  • Can’t physically improve investment or add value to asset
  • No influence on how your investment performs. If the market is down there’s not much you can do
  • Can’t leverage at the same low-interest rate as property
  • If you do leverage (which I wouldn’t recommend), you may get margin calls
  • More volatile
  • Fewer tax advantages than property

 

 

 

So Which Ones Right For Me?

It all comes down to what type of investor you are. Are you an active or defensive (passive) investor?

To quote The Intelligent Investor by Ben Graham:

‘The defensive investor is unwilling, or unable, to put in the time and effort required to be an enterprising investor. Instead of an active approach, the defensive investor seeks a portfolio that requires minimal effort, research, and monitoring.’

My rough guess is around 95% of people are passive investors.

That’s because the majority of everyday people don’t really care for finance in general and would rather be doing others things they find interesting.

But since you’re on this blog, it means you find finance stuff interesting. What a sad bunch we are ?!

If you’re a passive investor I think the answer is clear.

Shares are clearly suited for the passive investing style while still giving the investor a great return.

Coupled with great diversification, low buy-in and selling costs, no loan stress, liquid asset (can get your money out in 2-3 days), it makes for the ultimate passive style investment!

But if you’re in that very small group of investors that want to take an active approach, you’ve gotta ask yourself.

Are you REALLY an active investor? Do you REALLY want to manage your investments for potentially the next 10-15 years? Will your circumstances change? What happens if you have a few kids? Do you still want to be managing your investments on 4 hours sleep?

Do you have a lot of capital lying around for a deposit?

How’s your cash flow position? Could you afford to pay an extra $1,400 a month when you don’t have a tenant in?

Is your job stable?

Do you have a big cash buffer in case anything goes wrong?

If you answered yes to all the above then maybe you are suited for investing in property.

 

I have made money using both investment classes. They each have their own merits and downfalls.

Whichever one you choose to invest in, just make sure you educate yourself before taking the plunge.

Good luck!

 

How to buy ETFs

How to buy ETFs

If you’re on the path to financial independence and follow a few bloggers as they save and invest their way to freedom. You no doubt have come across an investment vehicle that just keeps on popping up everywhere you look.

 

Exchanged Traded Funds (ETFs)!

 

ETF meme

 

The holy grail of investing, according to most in this space. I’m more open to other types of investment classes such as real estate (I can almost hear the boos and hisses) and believe that each asset class has its strengths and weaknesses. But honestly, ETFs are recommended by so many people (Warren Buffett included) for very good reason:

  • Extremely low management costs (one of my ETFs charge 0.04%)
  • Great diversification
  • Low buy in and exit fees ($20 a pop depending on how much you buy/sell)
  • Can start investing with little capital (investment properties, on the other hand, require considerable start-up costs)

And there’s more but you get the idea.

 

So ETFs are awesome right! But how does one actually go about purchasing these little bundles of investment goodness?

 

Thinking

 

 

Directly through Vanguard vs Buying ETFs

This is the most confusing part of the whole thing. So you decide that you want to buy Vanguard ETFs because you’ve been hearing how awesome they are so you naturally do what any computer literate person would do.

 

You go to Google.

 

You punch in Vanguard, head to their site expecting it to be awesome and have them basically walk you through buying their product.

 

Errrrrr not so fast muchacho’s!

 

Vanguard’s site is crap. Yes, it has all the information you need on there in the form of white papers. But they have absolutely no funnel for a user to purchase their product. You sorta have to figure it out on your own. And to be honest, Vanguard doesn’t really need to rely on a fancy website or app (they don’t even have an app ffs). Their product is so good they don’t waste time and money on advertising and marketing.

 

Back to the point. You have two choices when it comes to buying a Vanguard product. You can either buy it directly from them (called managed funds) or you can purchase an ETF through a broker.

 

In a nutshell:

ETFs
  • Good if you make large or irregular investments
  • Requires trading flexibility
Managed Funds
  • Good if you make ongoing, small contributions
  • Does not require trading flexibility

 

The biggest factor is probably cost. Because depending on how often you’re going to make contributions, will dictate which method is right for you. There is a really good article that goes into detail about the costings of investing directly through a mutual fund vs ETFs on the Betterment website.

 

I have never purchased Vanguard products directly from them because it works out better for me to buy ETFs, so I can’t comment. But I have seen videos and it’s basically a signup, get your details, pick your fund type deal. If you have experience please comment below.

 

I do have experience buying Vanguard products through a broker though (see the video below to see me literally buying some).

 

Buying ETFs Walkthrough

  1. Log into your broker (I use SelfWealth) and head to trading > Place Orders
  2. Select the ASX (Australian Stock Exchange) code that you want to purchase (a list of all Vanguard listed ETFs can be found here) or use the search function
  3. Set order type as ‘Buy’
  4. Enter in how many units you wish to purchase
  5. Select at market value or list a price you’re happy with
  6. Set an expiry for the transaction
  7. Review your order and hit submit

Here’s an example of what mine looks like

SelfWealth Confirm Order

It’s that simple. Proceed to the next screen and confirm the order and you’re done. It will take a few days to process and the money will then come out of your nominated account and boom. You have now bought some ETFs.

 

If you have any specific questions please let me know and I’ll answer them to the best of my abilities.

 

Now go forth and fear not the simple process of purchasing ETFs!

 

 

 

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