Stocks and real estate are the two favorite asset classes for almost every kind of investor. Yet these two investments are unalike, and people who invest in them do so for different reasons. Ideally, having real estate and stocks as part of your diversified investment portfolio would be best. The reason is to help you spread the risks of your investment.
Regarding risks, Upkeep Media explains real estate is less risky than stocks because it is less volatile. Volatility refers to how quickly an asset’s price rises and falls within a given period and by how much. It is an essential measure for assessing the relative stability of the investment and its vulnerability to economic shocks.
A highly volatile asset is riskier. The asset’s sensitivity to market conditions makes it hard to predict if its value will rise or fall. On one hand, volatile assets let investors make more money in the short run if the asset’s value increases. On the other hand, an investor can lose millions of dollars if the asset’s price unexpectedly falls.
On the whole, real estate is a less volatile asset than stocks. The price of real estate moves slowly and in a more predictable manner. That is different from what can happen to the value of a company’s shares. Share prices can rise sharply or fall very quickly in response to political and economic news. But real estate prices may not even react to the same news.
The reason for the relative stability of real estate, compared to stocks, is explained below:
Why real estate is less volatile than stocks
1. Real estate is a tangible asset
Unlike stocks, which are paper assets, real estate is a physical asset. When you buy a stock, you get a piece of paper or a digital confirmation of your ownership. This paper does not represent a tangible property that you can take physical possession of. That is why stocks are also called paper assets. Real estate is not like that; whether you are investing in raw land or properties, real estate is physical. The fact that the physical asset remains in place regardless of what happens to its price makes real estate more resistant to market shocks.
2. Liquidity and trade volumes
As a rule, liquid assets are more volatile. The liquidity of an asset refers to how quickly you can convert it to cash. Liquid assets are easy to trade. That makes them highly susceptible to demand and supply forces. If there is high demand for the asset, its price will rise. The opposite effect is seen when demand falls. Movements in the value of stocks are often a response to demand and supply rather than actual changes in the real economy. Because real estate is highly illiquid, fewer real estate transactions happen in a given period versus the number of stock market transactions occurring that same period. Consequently, real estate prices move more slowly.
3. Real estate is based on actual needs and is always in short supply
Demand for real estate is based on essential needs that derive from the utility value of real estate. Real estate will always be relevant because people need land, homes, office buildings, and factories. Every kind of real estate investment is based on land that cannot be manufactured (at least not yet). While the human population is growing very fast, the size of land available on earth is fixed. That means there is more demand for land than there is supply of land. This dynamic ensures that land is always valuable and the value of real estate will always be relatively stable.
4. Longer hold periods increase real estate stability
Most people who buy real estate plan to keep it for a long time. Some investors do not plan to sell their property. Unlike the stock market, where most trading is speculative and short-term. More extended hold periods for real estate means that investors are more likely to hold onto their properties during times of economic downturn instead of selling them off. As a result, real estate prices are more resilient than stock values. Even when property prices fall and rise in the short term, they remain relatively stable in the long term.
5. Real estate is local
Real estate investments are often insulated from events in the national and global economic spaces. They are more responsive to local events than to global ones. That allows some property markets to continue to thrive, irrespective of what is happening in other geographies. The local drivers of real estate value are usually things like school districts and neighborhood amenities. These things are more responsive to local demand than to national economic news. That is, the interests and activities of the people in a locality have more impact on real estate values.
How should this information influence your investment decisions in the future? For guidance on taking advantage of real estate’s relative stability to build a bulletproof investment strategy, talk to us at…
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