Analysis - A Case Against Real Estate Investing

Below is an analysis of two different people with two different investment philosophies. Ricky Renter believes in real estate investing and Steve Stock believes in putting his money into mutual funds (stock market) instead.

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A post shared by butainvestor (@butainvestor) on May 5, 2020 at 12:13am PDT

Yr	Ref	Milestone	Ricky Renter	Steve Stock
0	A	Initial Capital	Home sale price is RM500k. A 10% DP of RM50k is required. Ricky starts off with a total Fixed Equity of RM500k (Home Value) – RM450k (Mortgage) = RM50k	Steve invests the RM50k into his stock portfolio.
0 - 35	B	Appreciation	Ricky's home appreciates at a rate of 1% p.a. against his initial home value of RM500k.	Steve's stock portfolio has a return rate of 5% p.a. against his 50k initial investment.
	C	Mortgage Repayment	Home loan interest rate is about 4%. For a RM450k loan to be repaid in 35 yrs, it works out to be a flat RM2k/month. Luckily for Ricky, inflation & home value increase has no affect on the repayment amount.	Steve has no mortgage repayment obligations.
	D	Maintenance & Repair	The home will require a yearly repair cost of about 1% of the home value. So for the RM500k home, the yearly maintenance cost is about RM5,000. The 1% p.a. increase will take inflation into account.	Steve has no home repair obligations.
	E	Property Occupied (10m/yr)	Ricky gets to collect monthly rental. We also gave Ricky the benefit of yearly rising rental rate (1% p.a.). During occupied periods, the tenant is essentially paying for Ricky’s mortgage. However, to be realistic, we assume tenancy of 10 out of 12 months only.	Steve has no rental income.
	F	Net Cash Flow	Ricky’s net cash flow sums up (C) + (D) + (E). Although Ricky gets an increasing rental rate every year (1% p.a.) and his mortgage repayment is fixed, the net cash flow is still negative due to (1) Maintenance cost also increasing 1% p.a. and (2) During vacant periods, Ricky has to directly service his mortgage loan. When Ricky derives a negative cash flow, he needs to withdraw that amount from his savings.	For a fair comparison, Steve gets to withdraw the same amount from his savings. But instead of paying off the maintenance and outstanding mortgage (which he does not have), Steve contributes it into his stock portfolio.
35	G	Mortgage Paid Off	Ricky’s property would have appreciated to RM708k. At the same time however, Ricky would have withdrawn a total of RM217k for maintenance and servicing his mortgage loan during vacant periods. His total equity comes up to RM491k.	Steve initially started off with RM50k in his stock portfolio and makes a yearly contribution of Ricky’s net cash flow (F). His portfolio returns a rate of 5%. His total equity (i.e. his stock portfolio), sums to be RM956k.
35 - 50	H	Ricky Reaps the Rewards?	Ricky no longer has outstanding mortgage loan. All the rental income now goes into Ricky’s pocket minus the maintenance cost. He is now at a net positive cash flow every year. The additional income will go to stock investment (5% p.a). The home continues to appreciate at 1% p.a.	On paper, Steve no longer has the upper hand here. Unlike Ricky, Steve does not have any rental income. And since Ricky no longer needs to withdraw cash from his savings to fund the negative cash flow, Steve will also stop his yearly contribution to his stock portfolio. Steve will rely solely on the 5% p.a. return rate on his portfolio for equity increase.
50	I	Ricky Wins! Not.	Ricky now has a home value of RM822k and stock portfolio value of RM486k BUT we must not forget the RM217k accumulated expense from point (G). That sums up to RM1,091k.	Steve’s stock portfolio that started off at RM956k at year 35, grew 5% p.a. with zero cash in. How did he do? His portfolio grew to a whopping RM1,989k at year 50!

Steve Stock comes up way on top. There are several other scenarios where Ricky Renter could possibly win this one instead:

• Stock Market rate of return goes down to 3.4% p.a. However, any decent mutual fund portfolio could return 5% p.a. or more.
• The occupancy rate goes up to 11 months per year (92%). This would take mix of a good property agent, a good location and a bit more spent on maintenance & renovation.
• Maintenance rate reduced to less than 0.4% of home value per year. Be warned that skimping on home repairs may reduce the rentability of your property (i.e. reduce your occupancy rate).