In a time when anyone with an active internet connection can become a guru or expert, it should come as no surprise that financial “experts” are cropping up everywhere. In my own algorithm (results vary), these experts tend to spend considerable time talking about investing in real estate. This is a natural first thought when it comes to investing, everyone needs somewhere to live, so buying real estate and renting it out must be profitable, right? Not to mention, over time the value of real estate is expected to go up and at the end when you are looking to sell your property, you could experience a healthy capital gain. Win, win! Rental income comes in throughout the duration of real estate ownership, and if all goes according to plan you sell for higher than the purchase price.

What is advantageous about this investment is it is clear how the whole operation works. In contrast, the vagaries of the stock and bond markets appear opaque and more volatile to us. Every day the market goes up or down, but why? Pundits might offer suggestions for what is happening in these movements, but are they right? Who knows!

This is often the point at which a potential investor decides the clear and concise nature of real estate is very appealing, and they choose to follow the path of least resistance and invest in rental properties. Unfortunately, real estate investment can become significantly more complex once you own it. First things first, a tenant needs to be found and market rent changes constantly, therefore, leases need to be signed and renegotiated over time. Additionally, there are many costs of an investment house many don’t always consider. Houses are durable goods that require ongoing maintenance, tenants have issues or questions, risk of property damage exceeding the deposit, insurance rates vary, natural events can impact the property value, and all of this assumes during this investment in real estate, property values go up. Hidden among the years in which a house lasts, housing prices are relatively volatile. Unlike the stock market, there are not entire TV channels or websites dedicated to tracking the value of individual homes in your neighborhood, but do not be fooled, the price of the property you own is changing daily both up and down. Unfortunately, the only way to keep track of this would be to have a different realtor call you every day and give you their opinion on the value of the property. It is unlikely anyone would set up this level of tracking.

In the end, a real estate investment can suddenly go from clear cut to complex. In reality, owning a rental property should be treated like owning a business. There are risks involved, expenses to be paid, customers to satisfy, and profit margins to monitor. Having a good accountant or bookkeeper can make the admin work easier, but that doesn’t change the fact at one point or another, a toilet will need to be unclogged. Ultimately, who is the person who deals with that? The landlord. By either paying a bill to have someone else deal with it, or by dealing with it themselves, the owner of that property ends up bearing the burden of managing that property.

Conversely, the seemingly complex nature of the stock market is dispelled by examining real estate in this way. Sure, the market goes up and down, but so does the value of a property. If you are planning to own either asset for a long time, the short-term volatility should not dissuade you from investing. You might argue all the work put into managing a property could easily be avoided by hiring a property manager and accepting a lower personal profit. This is literally exactly what companies are offering when they list their companies on stock exchanges. The company promises to do all the work of managing the day-to-day business operations but provides the investor with an opportunity to participate in the growth and income of the company as an owner of the stock. Over time one would expect the value of the stock to increase, much like the property value, and on an ongoing basis, many companies pay out an income to their shareholders in the form of a dividend, equating roughly to the income stream of rent collected on a property.

So why do it? If the basics of how investing in companies and investing in real estate work out to be quite similar when you get to the bottom line, why would one choose to invest in real estate? The common explanation is owning real estate offers the ability to have other people finance the investment. A bank or lender loans the funds to purchase the property, and the tenant pays their monthly rent and in doing so should hopefully pay off the loan over time. Online gurus tout this as “tenants paying for your investments!” This is a significant oversimplification. Borrowing to invest is incredibly risky. What happens if the rent cheques stop coming? Or if the value of the home suddenly drops? The lender is typically not going to be very forgiving; they loaned the money for the mortgage with the house value as collateral. If the mortgage payments are not made, they will repossess the property and sell it themselves to cut their losses, leaving the investor in default.

Most people clearly understand this when it comes to investing in stocks. You probably would not feel comfortable borrowing hundreds of thousands of dollars and investing the money into the stock market. Houses and property feel somewhat different because it is a concrete “thing” one can go see, touch and feel that represents the collateral. But as we saw previously, a company offers the same collateral in their buildings, facilities, store fronts, intellectual property, inventory, etc. We return to the fact there are no readily available sources that demonstrate the volatility of real estate markets at the same speed as stock markets. The risk that a company’s products or services become less desirable is the same risk as a property’s rent-ability becoming less desirable. For a company, a new competitor might arise, and for a rental property, a new building could be erected nearby.

There are other reasons to invest in both real estate and financial products including tax advantages, diversifying investments, etc. In summary, investing of any kind should be approached thoughtfully and with a full understanding of the risk involved. We are not against investing in rental properties, but we think it is important to point out that depending on your own circumstances, different forms of investing might be better suited to you.

If you have a large real estate portfolio or you are thinking about getting into the market, let us know! We would be happy to discuss the pros and cons of your specific situation with you, 403-260-0568. This article barely scratches the surface of investing in both real estate and stocks and bonds, so if you would like to hear more on the topic, let us know, you can call or send an email to us via our website www.kozakfinancialgroup.ca