Properties better than Shares?

Mansion

One of the most lucrative money-making opportunities out there is through property investing. I plan to get into the market within the next few years (if things goes well of course). In this entry, what I mean by property investment is basically the usual buy property, hold it, and enjoy the rental income strategy. I won’t be discussing about property trading, property options, property development, and etc. this time.

Recently, at uni, I attended this seminar on property development. That guy, who was a property developer (duh..), said that he prefers properties over shares because shares were too risky. Is it true?

First of all, I’d prefer properties/real estate as assets where you would obtain and keep for a long time. I prefer the strategy of buying POSITIVE CASHFLOW PROPERTY, and enjoy the rental income. As time goes by, you build up equity in those properties, unleash those equities, and buy even more properties. Equity will be discussed in another article.

What is POSITIVE CASHFLOW PROPERTY you ask? Here’s a simple illustration:

Your monthly mortgage repayment for your investment property is $1,000. Your rental income on the other hand is $1,300. After paying the monthly repayments, there will be $300 left over. This is POSITIVE CASHFLOW, thus the term POSITIVE CASHFLOW PROPERTY.

An opposite to POSITIVE CASHFLOW PROPERTY is NEGATIVELY GEARED PROPERTY. An example of negative gearing:

Your monthly mortgage repayment for your investment property is $1,000. Your rental income on the other hand is $900. You then need to supplement the mortgage repayments from your own pocket by $100. This is negative gearing.

Are negatively geared properties bad? No, they’re not. It has its own advantages as well. We’ll discuss about this at another time.

Alright, let’s get back on track. Is it true that shares are riskier? Well, you be the judge. Let’s look at the potential drawbacks of investing in properties.

DISADVANTAGES

Barriers to Entry

You need a rather big amount of capital to get started in property investments. To get a $200,000 house, you will need $20,000 (assuming 10% deposit). Apart from this, there’ll be the usual stamp duties, legal fees, insurance fees, and etc. For individuals like me, with no jobs, and still in uni, it would be hard to get hold of this amount of money (hard to get a loan as well, unless you’ve got a guarantor). True, there are other ways to raise capital, but when it comes to individuals like myself, we have limited options.

Shares on the other hand need a rather low amount of capital to begin.

Hard to Exit

One thing that I don’t like about property investing is that it doesn’t have the STOP LOSS feature, unlike share trading/investing. What is a stop loss? Stop loss is basically an automatic lever that would be automatically activated and exits you from the market if the price of the asset reaches a certain level. Have a look at my stop loss post. Having a stop loss would detach the emotions between you and your investments. How many times have we said to ourselves during asset price decline, “It’s ok, it’ll bounce back.”, when in fact, it keeps on declining?

Also, to exit from the property market, it takes a while. When you want to sell your house, it takes on average 30 to 90 days, if not more (from the point of you putting the property on the market, to the point of you getting the proceeds of sale). Shares, on the other hand, to exit, takes only minutes, or even seconds (provided there is liquidity).

Something to take note of, in the recent subprime crisis, we have seen property prices falling like crazy. I read in Australia’s Money Magazine that it fell by 48% from its January peak, causing negative equity to a lot of homeowners. For individuals with deep pockets, this wouldn’t create much problem. How about for the rest of us who has limited amount of capital to play around with?

Risk of Properties and their Potential Costs

On average, the equity in your property increases by 7% p.a. (Australia’s estimate), and rental income around 4% (??), taking note that most of the rental income goes back to paying your mortgage. True, the 7% p.a. return is leveraged but shares/business can also use leverage. The return of equity from your investment properties can only be realised by selling the asset or by refinancing the asset.

On-going Costs

Investment properties usually have on-going costs to bear. Things like property management fees, maintenance costs, Cukai Tanah (Malaysia), Cukai Pintu (Malaysia), and etc. Of course, it would be different if all these costs are borne by the tenants.

There is usually no on-going maintenance costs for shares. You only pay for the brokerage (assuming no leverage is used).

Interest Rate Rise

Interest rates change all the time in accordance to the economy. This can be a real headache to property investors. The interest rate may rise by so much that it can transform your POSITIVE CASHFLOW PROPERTY into NEGATIVELY GEARED PROPERTY. Of course, there are ways to solve this problem such as getting your interest rate fixed, and etc.

Accessibility

In terms of shares, you can easily check or do changes to your position easily by phoning your broker or even through a computer with an internet connection from anywhere in the world. They are easily accessible.

Properties however, due to them being a static asset, you or somebody else need to be personally there to check on problems or to carry out any transactions.

Other Problems

Another problem that can create a massive headache is the risk of having tenants from hell. Tenants paying late, party junkies, and etc. You get the picture.

Another bigger problem is having no tenants at all.

Shares don’t have these problems.

Alright, now let’s look at the advantages:

ADVANTAGES

Tax Deductibility

I’m not sure about Malaysia, but in Australia, expenses, and interest costs are tax deductible. Highly beneficial indeed.

Leveraged Returns

Due to the nature of property investment, your returns are leveraged. Your outlay is little but your returns are exponential. Have a look at this illustration.

You bought a $200,000 house with a $20,000 deposit. The following year, the price of the house increases by 10% or in dollar terms, $20,000. Remembering that your actual money in the game was only $20,000, you have effectively made a 100% return on your capital! Take that!

Rental Income

Another advantage of property investment is the rental income. Assuming you have a POSITIVE CASHFLOW PROPERTY, the extra money you get each time your tenants pay rent can be really useful. If you decide to buy further properties,the extra money can supplement the repayments.

Disciplined Savings Program

Let’s assume that our monthly income from our day job is $2,000. Most of us will find all sorts of excuses not to leave some money aside for savings.

Now, by having an investment property, you are obligated to pay the mortgage repayments or there will be repercussion from the bank. You haven’t got the choice to skip one month of repayments. In a way, you are now forced to save your money, which is a very good thing.

Less Volatile than Shares

Unlike shares, there are no Bursa Hartanah/Property Exchange like the Bursa KL/Australian Stock Exchange. Same properties are not usually traded on a daily basis or even every minute, unlike shares. Changes of house prices also can not be tracked as quickly as share prices. You might need to get a qualified valuer to value your investment properties to actually know how much it is worth. As such, properties are less volatile than shares. History has proven this.

Inefficient Market

Unlike the share market, the property market is an inefficient market. Prices and information are not transferable between individuals easily. There are a lot of opportunities in an inefficient market. The misjudgment of the value of a house by an individual can lead to a good opportunity to another individual. Let’s take this for example:

Mr. A is a buyer and Mr. B is a seller. Mr. A found out that this particular area will be developed soon. Mr. B didn’t know about this and thought that this is a horrible place due to no-development in the past years. Mr. B didn’t know that the area is going turned around soon. Because of this, Mr. B is prepared to sell his property 40% below market price. Obviously for Mr. A, this is an amazing deal!

Physical Asset

Another advantage is the fact that when it comes to property investing, you own a physical asset. You can actually touch and see your investment properties. It is there. Unlike shares that are only visible on your account statement or on your computer screen. Owning a physical asset do have its own merits.

My View

Personally, I don’t have a preference on one over the other. To me, I would love to have both properties and shares to be in my portfolio.

All in all, for me, my way is to accumulate capital through share trading first and then lock away my money in real estate and other quality assets for the long-term. Of course, my view could change in the future.

Anybody has an opposing view? Feel free to share your opinions as well.

P.S. The above writings are based on my own personal opinion only. It should not be treated as exhaustive or a recommendation to do anything.

(Photo courtesy of Wikipedia.com)

About nadlique

This blog is about the journey of a 28-year-old Malaysian towards financial freedom. This blog was started back when the blogger was 21 years old. However, his journey towards financial freedom had begun way before that. Materials such as investing, business, entrepreneurship, equities, and real estate are presented. The author also posts his thoughts and observations on life in general.

Comments

  1. “Also, to exit from the property market, it takes a while. When you want to sell your house, it takes on average 30 days (from the point of you putting the property on the market, to the point of you getting the proceeds of sale).” – It is true it takes time to make your money liquid. 30 days most probably in other country. The process of buying and selling is so delayed and inefficient in Malaysia. It takes an average of at least 2 months to complete the transaction for “freehold properties” and an average of 6- 8 months for “leasehold properties”. The process is so inefficient until you never heard anybody doing “flipping” in Malaysia.

  2. Real Estate vs Shares: You did not mention the ongoing requirement for management of a property. Someone must frequently check the condition of a property and get repairs done if needed. Tenants will alert you to those which are a problem for them (e.g. plumbing failure) but may not mention problems which they have caused (e.g. damage). Depending on location and climate, you may have to manage trees, fallen leaves, litter, and grass (and snow in high latitudes). You will occasionally have to paint the place, and replace the roofing, and probably other things not evident to me just now.

    Another difference is portability. Real Estate is fixed to the ground somewhere. Shares of stock may be held by you as pieces of paper, or more likely nowadays just as an account entry at a brokerage. You can connect up your laptop anywhere and have access to that account and do whatever manipulations and maneuvers are needed.

  3. Dr. Azwan: Thanks for sharing that info. Correct me if I’m wrong, but that’s why I think in Malaysia, I guess most would prefer adopting the “buy and hold” strategy. Property flipping might not be the best option here. Though, have you ever heard of anybody doing property flipping here in Malaysia?

    IASSOS: Thanks for sharing mate. Will update the post as needed.

  4. True enough IASOSS. Sometimes the headache you get and the money to repair and maintaining the rented house is much much more than the extra income you get from the rent. That is why, there would be a “BIG” topic on how to choose your “bluechip” tenant. Even then, looks can be very deceiving. My tenant from hell disguised as a lovely and soft spoken Mum. Cost me nearly RM 2000 to fix the whole unit up. Hahaa..

    NADLIQUE : How to flip If the transaction takes years?. I’ve come across a case of house with “leasehold” title only being approved after sold for 1 year!

  5. Fair to say that it’s not worth it to carry out property flipping strategy here in Malaysia.

    On another matter, having tenants from hell, is a huge risk. Sometimes, that risk is not justified by the returns that we get. Unless of course, the amount of money leftover from the rental income is significant enough.

    Anyway, Dr. Azwan and IASSOS, how many tenants from hell have you come across so far? 🙂

    By the way Dr. Azwan, have you been to any of Azizi Ali’s seminar? Is it any good?

  6. I was only a landlord once, and that was long ago. Fortunately I had a good tenant who paid the rent promptly and did not damage the place. After she left I sold out. On the other hand I have been aware of several situations where the tenants were difficult. Either they didn’t pay the rent on time, or not at all, or they violated the housing codes by bringing in extra lodgers, or they were too junky for the neighborhood; and this goes on. So, to be a landlord you must be tough, and thick-skinned as well. You must also be vigilant — keep your eye on what’s going on, keep things in good repair, and demand the rent when it’s due. If you can do all of that, it’s a good diversification.

  7. Dr. Azwan: I just read Malaysia’s Money magazine November edition. There’s this one guy who managed to do property flipping in Malaysia and I’m assuming he made serious money from that. Looks like, at the end of the day, the notion of Nothing is Impossible still stands huh? I wonder how he does it considering the inefficiency of our market.

    IASSOS: Good for you that you didn’t face any problematic tenants! 🙂

    On another matter, I’ve got to agree with you about being tough, thick-skinned, and vigilant. Especially when dealing with people.

    My dad was also fortunate enough not to face tenants from hell during his property investing days. Though, there were a few occasions when tenants pay rent late, but I guess not that often to make it a huge problem.

  8. Nightmare tenants

    MSN Real Estate

  9. Dr Azwan mentioned the inefficiency of the property transfer process in Malaysia. I can attest to that! My wife has been in the process of selling a property for more than a year. The buyer is well qualified; there are no legal problems; no cloud on the title; no money problems; a very astute buyer (she’s a lawyer!); and yet it drags on and on.

    We have submitted various required documents only to find that some tiny detail was wrong, so we had to do it again. I think the next thing we will be told is that the ink is not black enough. We are using pigment Z60YJ2 while it should be Z60YJ3.

  10. There’s just too much red tape here in Malaysia.

  11. Tenant from hell: few of them. Once a 28 yr old guy drove Mercedes came to me with her lovely “model” like wife wanting my apartment. He told me he wanter to rent the house for her 2nd wife. Looking at the car and the attires (with full suites and all) that they were wearing, well, nothing came in my mind. He even gave me 3 different cards, showing his glooming businesses.

    The 1st 2 payments were late. the next payment he gave me bounced check. The next 2 subsequent months, he didnot pick up calls. I sent 2 notice evictions. The next day, they all left. 3 months no payment. However, the place was still ok except some wear and tear problems.

    I call the companies… They never existed. He’s a Conman. The mercedes was his father’s. I was conned. 🙂

  12. About the flipping thing, if you read books about the real property flipping, the way they done in US is very different from Malaysia.

    In US, after let say, you and me agree on a term of selling of a property at a price of USD 200k. You will later sign an agreement saying that you as a vendor want to sell a property to me and “another person on my behalf” (a special clause)in front of a lawyer as both party agrees. . So if I find another person who wanted the house for i.e USD 250k, I can ask my lawyer to change the agreement on that specific “clause” and make that extra USD 50k.

    In Malaysia, you can do that but 1st, no lawyer would agree on putting that special clause in the agreement. So, you have to buy the property first, fixed it, make some improvement and sell. That would take time. You can call that ?flipping.

    2nd- if you have lots of money, like our chinese brothers, they will buy in cash and save a lot of time
    in mortgage proposal, get a customer and sell.

    Yes, you can flip in Malaysia in that sense. I never came across the “true” flipping in any Malaysian property experts books.

  13. Got that. Thanks for sharing 🙂

  14. Dr. Azwan said: “if you have lots of money, like our chinese brothers . . .”

    I would like to pursue this. How is it that they have more money to start with? If we can understand that, we can move the horse farther down the track, so to speak.

  15. Dr. Azwan said: “if you have lots of money, like our chinese brothers . . .”

    Where got a lot of money? I also want to have lots of money lah. 🙂

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  1. […] Properties better than Shares? – Property Investing: Battle of Conscience – Why I’m not so fond of ‘off-the-plan’ projects – […]

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