Gearing: shares vs property

Almost everyone understands the benefits of borrowing money to invest in property. However, the similarities and benefits of gearing into equities compared to property is not so easily understood.

With soaring property prices, investors need to explore other asset groups to build wealth. For Australians already holding property, diversification is an important consideration to reduce concentration risk and protect wealth.

We’ve explored the age-old argument of shares vs property to bring you the pros and cons of both.

Over the past 20 years, Australian shares have returned an average of 8.7% per year. Similarly the national average for Australian residential property has returned an average rate of 10.5% for the same period.

Despite both showing strong returns, property remains to be the most common tool used to create wealth. So why the disparity in their use? The difference is largely because borrowing to invest in property is more commonly accepted than borrowing to invest in equities. Many investors are not aware of the potential for gearing into equities as a growth asset over the long term, but it’s an option worth careful consideration.

Similarities

• Gearing can offer a tax effective way to access a growth asset – property and/or shares.
• Investment properties offer a rental return. Shares offer a dividend return and can come with franking credits, creating an additional tax benefit.
• Gearing magnifies your profits and your losses for both property and shares, so it’s important to take a long-term view.

What is the impact of higher property prices?

• Higher prices also mean lower rental yields (rent amount compared to mortgage repayment amount), this means investors need to give up more of their own income to cover the shortfall for the mortgage repayments when compared to renting.
• A large mortgage also means it takes longer before you actually own your home rather than the bank.
• Higher property prices means it is now very difficult to save enough money for a deposit.

What is the impact of low flexibility and liquidity?

Lack of liquidity in the property market means it becomes harder to exit when compared with shares. This is not only because of the time it takes to appoint an agent, find a buyer but also because of the taxes and agent fees involved in selling a property. This means that investors usually have to commit to paying off a long term mortgage with ongoing minimum monthly payments. Therefore property is often restrictive for those who plan to travel or take out other commitments that require more flexibility.

Feel that shares are too complicated?

Stock picking can be tricky. Fortunately the rise of exchange traded funds (ETFs) has made equity investments much easier. Investors can easily gain exposure to a diversified portfolio of shares – basically a basket of different shares – by using a low fee, exchange traded fund that tracks the Australian Index. For example, SPDR ASX is an ETF that offers exposure to Australia’s largest 200 companies – such as the big four banks, Telstra, BHP, Woolworths, etc. (ticker code STW).

If you want to gain a larger exposure to this ETF, but don’t have the funds required, you can utilise Leveraged Share Builders. This product wraps up the ETF purchase with additional borrowed funds in the one transaction. Here’s how it works.

Using ticker code STWSSL, investors borrow to invest in one simple transaction on market. STWSSL has a minimum investment of $500 per transaction.. For every $500 invested, an additional $500 is automatically lent to the investor, meaning the total exposure becomes $1000. There is no maximum investment and investors can choose to buy and sell at any time on the market without any break fees.

The investment is also positively geared, which means investors are never asked to fork out extra money to cover the interest expense – ever! The dividends from the investment are automatically used to pay off the interest and to pay down the loan over time. Also, should the market decline in value, there is no risk of a margin call.

To discuss how we can work with you and your clients, please contact your Leveraged Relationship Manager or call us on 1300 307 807.