The Great Debate: Equities outpace property over the long run
Morningstar analysis shows investors would have been better off in equities than property over the last two decades.
It’s 2002, the Sydney Olympics is over, Australia is getting used to the iPod, and the median house price in Sydney is $365,000.
Fast forward two decades and how the world has changed. The Tokyo Olympics is on indefinite hold, we’re on the twelfth iPhone, and the median established house price in Sydney stands at $1,000,000.
Investing in the property markets sounds obvious at those multiples. First-time home buyers certainly think so. Capital city property prices rose a record breaking 2.8 per cent in the March quarter, according to Corelogic, chased up by owner-occupiers swarming into the market.
But were this 2002, they might be better off choosing equities.
Morningstar has crunched the numbers and found that a lump sum invested in SPDR S&P/ASX 200 ETF (ASX:STW) then would have nearly doubled the return of the same sum in the Sydney housing market.
Using data from Morningstar Direct and the Australian Bureau of Statistics, we have devised a model that aims to step into the shoes of a first-time home buyer in 2002, who is deciding whether to put the bulk of their money in property or shares. The model calculates the return on a deposit in a house or a share portfolio, excluding contributions to the underlying equity and additional costs for now.
In 2002, the median Sydney detached house was $365,000, and a 20 per cent deposit was $73,000. Had our hypothetical investor parked that deposit in the housing market it would now be worth $200,708. Had the first-home buyer instead put the money in the STW exchange-traded fund, it would be worth $297,146—a difference of $96,438.
That’s the difference between a return of 175 percent and 307 per cent. These figures exclude property fees and taxes at this stage.
The Sydney housing market in perspective
Between 2013 and 2017, Sydney house prices rose 72 per cent. It goes without saying that house prices are a perennial and divisive topic. Look up mentions of “house prices” on Google Trends and you’ll discover that it has steadily climbed over the same period, peaking in May 2017. The term is again trending today fuelled by record-breaking price growth.
But amongst the hype, one period in particular stand outs. Between 2004 and 2012, house prices in Sydney grew by only 16.4 per cent. Instead of headline-grabbing growth, house prices went mostly sideways for nearly a decade.
Other capital cities fare worse
The underperformance of property versus equities would be the same had our first-time home buyer chosen Melbourne or Brisbane.
In 2002, the median Melbourne detached house cost $241,000, in Brisbane $185,000.
Today, a 20 per cent deposit in the Melbourne house market would be worth $164,837 (242 per cent gain), and $114,696 (210 per cent gain) in Brisbane. Not bad, but behind the 307 per cent Australian equities (STW) returned over the same period.
Apartments and townhouses in the three biggest capital cities (Sydney, Melbourne and Brisbane) have also underperformed equity markets since 2003 (the first year that data is available).
Again, a 20 per cent deposit on the median apartment would have netted you an 86 per cent return today in Sydney; 97 per cent in Melbourne; 82 per cent in Brisbane.
Blue chips a better bet
The returns on blue-chip shares such as BHP Group (ASX: BHP) or Commonwealth Bank (ASX: CBA) also dwarf house price growth in Australia’s hottest property market—Sydney. Putting the $73,000 deposit on Sydney’s median house in BHP or CBA back in 2002 would have netted, respectively, 662 per cent and 609 per cent.
The nuances of each asset class
Of course, property and equities are different types of assets and come with different costs and considerations.
Equities are volatile
The returns on a blue-chip stock such as BHP illustrate the extra volatility that comes with equity markets. For instance, between 2014 and the end of 2015, the value of your position in BHP would have fallen 42 per cent. There have been long periods where property prices went sideways, but historically the downside risk is lower. In the 2017 to 2019 dip in house prices, the value of a position in the Sydney housing market would have fallen by only 12 per cent in comparison.
Housing can also be a powerful commitment mechanism for investors who worry they can’t handle volatility in equity markets, says David Bassanese, chief economist at BetaShares.
"Historically investors sell when there is blood on the streets,” he says.
“If you fear you'll sell during a downturn then the market isn't right for you. Your long run returns rely on you staying in the market"
Diversification is harder in property
A property on a single street, in a single suburb, in a single city, is not particularly diversified. ETFs such as Vanguard Diversified Balanced ETF (VDBA) offer investors easy exposure to domestic and international equity and fixed interest markets. It can be much harder to diversify in the property markets, especially for first-time home buyers, says Bassanese.
"For the average millennial who can't buy a portfolio of 50 houses, what you buy is particularly important because the outcomes can vary widely,” he says.
“Whereas in the share market, with diversified exposure, you don't have to worry about picking individual stocks."
Costs are lower for equities
Buying a house is expensive, with legal fees, transfer fees, and stamp duty. This brings with it onerous administrative paperwork and a six to eight-week settlement period. Setting up an account with a brokerage can be done from a mobile phone as long as you have an internet connection and a driver’s licence.
Mortgages provide leverage
A mortgage is a form of leverage often unavailable to equity investors. With a $73,000 deposit, the new owner of the 2002 median house in Sydney effectively has $365,000 earning returns. This leverage can multiply gains on the way up, although it increases risks on the way down.
For example, assume the value of the house appreciates by 10 per cent to $395,000. Assuming the same principal and interest, once sold and interest was paid off, the owner would walk away with $103,000—a 42 per cent return on their $73,000 deposit. Without leverage, the same 10 per cent appreciation would only net the equity investor $7,200. The reverse happens when prices fall, quickly wiping out equity.
Mortgages can make saving easier
One way to think about a mortgage is as a forced investment scheme. You are obligated to invest a certain amount each month; and interest is the cost of participating. Whereas an equity investor could decide to put their investments on hold for a few months to, say, do a spot of skiing in Canada, it’s a different story for home buyers as banks tend to look poorly on delinquency.
Eye of the beholder
In 1867, Karl Marx made a distinction between use and exchange value. The price of an object in exchange for another is its exchange value. The satisfaction an object gives to a human want or need is its use value. Tickets to the Rabbitohs may have no use value for me but they still have an exchange value.
Housing is unique in having both exchange value (as an investment) and use value (as a home). Prospective homeowners should identify the type of value they are looking for, and remember that when it comes to property as an investment, there are other options.
Originally published by Morningstar
By Lewis Jackson
Lewis Jackson is a reporter/data journalist for Morningstar.