Property vs portfolio investing

Warning: leave your emotions at the door

This is usually a pretty charged topic with all sorts of psychological factors at play. One of the biggest problems with having a sensible debate is that people have an emotional connection to property.

Understandably so – as humans, we have a huge preference for things we can touch and see and interact with. It’s much harder to do that with a share in a company (although if it’s your own company, there will be that same kind of connection – many entrepreneurs sell or refinance their properties in order to build their business).

Property, then, has an inherent, psychological advantage over stocks. Ideally, for the next 900 words, you’ll put that aside. Otherwise, have fun in the property market!

The portfolio numbers are clear…but the property numbers are awful

It seems like a simple question: which investment performs best?

Over the past ten years, the FTSE All Share Index has risen by 36%. Of course, as we constantly remind investors, the power of compounding is what makes all the difference. Taking dividends and reinvesting them is what really drives returns over time – look at the FTSE All Share Total Return column, which does just that.

Table 1: All numbers to 30/06/2022, sourced from Bloomberg

How did investing in property do over the same time periods? And that’s where the problems start. Because with property – as with space travel, as Douglas Adams will tell you – all the numbers are awful:

Table 2: All numbers to 30/06/2022, sourced from Land Registry

The price isn't right

The problem with the price column is that an "average" property doesn’t exist. Over the last ten years, the average price of a house in the UK has risen from £170,000 to £283,000 – a gain of 67%. But no-one has had that exact experience.

For one thing, where you buy a property makes a significant difference. In the North East in 2012, the average house price was £117,000; today it’s £157,000. In the South East in 2012, the average price was £224,000, while today the average is £390,000.

The nature of the property you have also matters. A rural farmhouse is a completely different proposition to, say, a five-bedroom townhouse, or an inner-city flat, or suburban semi-detached.

Features are important too. Garden? Dining room? Driveway? Too far from the train station? Too close the train station? Built an extension? Knocked through a wall? Each property has its own quirks, some of them self-inflicted.

As anyone who’s ever thought about buying a house knows, there’s no such thing as "average." The price data is meaningless.

Compounding is complicated

The issue with the numbers in the total return column is the same, albeit worse. Even assuming that the property is being rented things get rapidly out of hand.

This partly comes down to the individual nature of property and rental agreements. There is no "fixed" yield on a rental property; it depends on what the owner can negotiate with the tenants. Someone might be renting out a similar house for double or half what their neighbour is – it’s entirely up to them.

Then there’s the issue of how the rent is reinvested (assuming it’s not spent!). With a dividend, it's easy enough to simply buy more shares in the company that paid it. It’s much harder to compound monthly rent into exactly the same investment as it came from.

Finally, there’s costs. Refitting a house after a tenant leaves, mortgage repayments and refinancing, legal fees, agency fees and so on – none of these are standardised.

To work out someone’s total return on an individual property would require complete access to their bank account and a long weekend of spreadsheet time.

Beyond the numbers

Unfortunately, at a general level, estimating the capital return on an individual’s investment in physical property is tough, while estimating the total return is almost impossible. Calculating the cash value of owning a house is so complicated that the Office for National Statistics only really started doing it five years ago – and it’s still pretty vague. 

Even assuming the return story on property could be generalised, there are a few other considerations when contrasting with an investment in a stock portfolio.

• Most investors already have a large property portfolio: the house they live in. Concentrating further into the same asset class is rarely a good idea (especially given that few property investors buy outside of their home county). A simple global portfolio of stocks gives access to different businesses, cultures and geographies.
• Life is unexpected. Sometimes, a plan needs changing. And if some money needs to be realised; selling down a part of a portfolio is always an option, and usually an immediate one. Selling part of a property is almost impossible, and selling a whole one takes time. Or, in the reverse situation, it’s far easier to start building up a portfolio with a very small amount of cash than it is to buy a house.
• Management. A well-diversified portfolio can be built and maintained extremely efficiently. The tools to do so are widely available and easy to use. Running a property can be a lot more stressful. Whether it’s a burst pipe, struggling to find a tenant, or the hassle involved in selling the place – none of it is stress free.
• Costs. Portfolio costs are clear, usually paid out of capital, and monitored by the regulator. Property costs are far more irregular, usually need to be paid up front, and have very little oversight.
• Tax. There are numerous government-encouraged ways to invest in a tax-efficient manner; ISA’s and pensions being the most obvious. But property has been becoming less and less tax-efficient over the last decade – whether for the capital gains or for rental income.

It's an underestimated factor, but the behavioural considerations of investing in property rather than a portfolio (especially a well-managed 7IM portfolio) are often ignored.

For some people, it may still make sense to invest in property. But it’s not a slam dunk, and it won’t be stress-free. Nevertheless, it's still important to remember there are often associated costs when purchasing stocks and shares. However, they typically tend to comparatively lower and more expected when compared to the costs associated with property investment.

It is important to note that this article is intended for educational purposes only. Past performance is not an indicator of future performance, and the value of your investment can go up or down.