Should You Invest in Houses or Shares?

Lessons from long term returns on equities and residential property in the UK

This is not investment advice. It is my opinion only and is not a recommendation to buy or sell any stock or investment product. You should do your own research and invest according to your own financial circumstances.

Photo by James Feaver on Unsplash

Taking a break from UK macro this week, I thought I’d return to the topic of investment returns given a recent report from Abrdn which found that UK adults hold the smallest percentage of their wealth in equities or mutual funds of any G7 country (8%) and that almost half of UK adults think property is a better long-term investment than pensions.

I haven’t dug into these numbers - and from my past life I know that finding good data on stock ownership in the UK is difficult – but the picture of low equity ownership among UK individuals is consistent with what I’ve seen and written about before. Brits don’t really like the stock market, preferring the safety of cash and the perceived safety of housing.

Why do Brits Hate the Stock Market?

What I want to focus on today is less about why that is, but about whether it makes financial sense. Has UK housing been a better investment than UK shares?

As with any question on investment returns, you’d think it would be simple to answer, but in practice it’s not.

Houses vs. Stocks: Price returns

The Bank of England’s A Millennium of Macroeconomic Data project¹ provides UK house price and share price indexes going back to 1845. As they’re price only, they do not include dividends from shares, rent from housing, or the costs of ownership. Those are big omissions, and I’ll come to them later, but for now let’s look at prices because those drive the headlines anyway.

The chart below shows annualised returns over trailing ten-year periods. I’m using ten years to start because that seems a reasonable timeframe for non-retirement savings. The way to interpret the chart is that each year shows the average annualised returns for house prices and share prices over the previous 10-year period i.e. 2024 shows what your return would be if you’d bought in 2014 and sold in 2024. Areas of grey show periods in which share prices outperformed house prices; areas of pink show periods in which house prices outperformed share prices, both looking back over the previous 10 years.

What comes across is choppy performance. Shares prices outperformed during the nineteenth century, but from then on it tends to alternate. From 2012 on (i.e. for those buying houses and shares from 2002) there isn’t much difference in historic ten-year returns, although house prices have staged a comeback over the last decade.

Ten years isn’t a particularly long timeframe though if we’re looking at a working life or a typical mortgage term. To account for that, let’s look at 30-year average returns.

As expected, the longer time horizon smooths out the choppiness in relative performance, and we see three distinct periods. Share price outperformance in the 19^th century, house price outperformance in the 20^th, a more mixed picture in the 21^st.

A few other things jump out:

• First, neither house prices nor share prices always go up, even over long time periods (although most of the time they do, and since 1945 they pretty much always have, but remember this doesn’t account for inflation).

• Second, the performance of both assets has moved together, with trailing 30-year returns rising steadily during the post war period. This coincides with a period of sustained economic growth and growing housing demand as baby boomers entered the workforce. The high nominal returns also reflect higher inflation than in the pre-WWII period.

• Third, since 2000-ish, 30-year returns for houses and shares have been quite similar, which may reflect the role of falling interest rates in driving all asset prices since the early 1980s. The recent divergence is part outperformance of housing in the 2010s, part the UK housing market being in the doldrums 30-years ago, making it an excellent time to buy.

Now there are a boat load of caveats to the above. If you owned a house in London, you would have done much better than average through most of the period. But if you owned a flat in London with cladding issues, you probably did worse than average over the last decade. If you’d switched UK shares for a global equity portfolio you would have done better in shares too.

Caveats in mind, the bigger picture is that the long-term outperformance of house prices over stock prices in the UK, which held for nearly 70 years, looks to have turned somewhere around the millennium.

That was just a few years before I left university and the narrative then was still very much shaped by the experience of those previous 70 years – save for a deposit, buy a flat, get on the housing ladder, build equity, get enough for a bigger deposit, buy a bigger house. Looking at the prices returns – which is often what draws the attention – it makes sense why.

Houses vs. Stocks: Total returns

Prices may dictate the public conscience but when looking at investments we really need to talk about total return. For equities that’s the capital gains plus dividends minus all transaction fees, holding costs, and taxes; for housing that’s capital gains plus rental income minus all transaction fees, maintenance and depreciation costs, and taxes. For equities that’s not so hard, but for housing it’s more complicated, given it’s almost impossible to know accurate price changes, rental income and holding costs for all individual properties – and properties vary a lot.

Because of this, getting total returns for “UK housing” normally requires combining different average estimates of prices, rental incomes and costs. Several studies have done this for the UK and found net annual real rates of return for UK residential property ranging from 5% to 8% depending on the period. That’s pretty good given long term real returns on equities of around 5.5%.

The last study in the table adds some confusion to the mix though. Instead of looking at top-down data, Chambers et al. examined the real estate portfolios of four large Oxbridge colleges over the period 1901 to 1983. They were able to map incomes, costs and price changes at an individual property level, and found that residential housing delivered a net real total return of only 2.3%. Although the data only goes up to 1983, they find that income yields, and capital gains were much lower for the portfolios in question than those assumed in the previous macro level studies over the same period.

The conclusion of all of this? Well, it’s just not that simple to say whether UK housing or UK stocks have been a better investment. Housing was a pretty good one over the twentieth century; but so too were stocks. And what you actually earned on a housing portfolio could have been very different from the aggregate estimates.

The power of leverage and the distortions of tax

What can make housing a truly great investment is the power of leverage i.e. the ability to buy a house using borrowed money. You just can’t do the same with a stock portfolio – and as any finance class will teach you, and as private equity knows all too well, using borrowed money increases potential returns. It increases potential losses too, but if prices rise - and if, as is the case with a mortgage, you don’t have to put in any more money if prices temporarily fall - you’ll be okay.

Every year or so, for some slightly different reason, I end up putting together a very basic example of how borrowing amplifies returns. Here’s this year’s version, which assumes that house prices double over a 10-year holding period. To keep it easy I’ve assumed the mortgage is interest only and that rental income is fixed. The return on equity is simply cash inflows over the period divided by the cash outflows. See that leverage at work!

Added to leverage have been the tax advantages of home ownership and housing investment. Mortgage interest payments on primary residences in the UK could be deducted from income until 2000; landlords continued to be allowed to deduct them until 2017. Primary residences remain exempt from capital gains taxes, although second homes and investment properties are now liable. The exact tax situation ebbs and flows, but apart from stamp duty, which is considerably higher on housing than on equities, the tax system has often favoured housing over equity investment.

Questioning the property ladder

I think the interesting part of all this is to consider where we are today and what may have changed. Two big things here are that interest rates are no longer in secular decline, and the tax system is less favourable to housing as an investment for individuals. Both have been noted, and since 2015 the buy-to-let market has grown at a slower pace than during its heyday in the 2000s. I’ve also seen a lot more commentary questioning the myth of the property ladder. But buy-to-let hasn’t collapsed - and it hasn’t led to UK individuals putting more money into equities.

Much of the value in housing as an investment comes from the power of leverage and the ability to borrow a small amount to fund the purchase of a large asset; something that most of us simply can’t do with stocks. But leverage is a two-way street. If house prices continue to rise – and renters are able to cover higher interest costs - then borrowing will amplify housing returns. If house prices fall, and there are many examples internationally of where this has happened, then leverage works the other way and equity will be swiftly wiped out (I’ll follow up in a separate post on when and where this has happened in the past).

To return to the original question of housing versus stocks, I end up at the rather bland view that diversification is really what’s key. Housing is not a slam dunk investment, its performance relative to equities has ebbed and flowed, and the performance of a property portfolio may vary from what headline numbers suggest.

But in the long-term house prices have gone up, and taking advantage of borrowing can significantly enhance returns relative to investing in equities. Just don’t ask for any liquidity and be sure to have enough cash to cover any income shortfalls. For most people, owning the home they live in, while putting any excess savings into equities, is a strategy that will work best.

1. The dataset was last updated in 2016 so for the eight years since I’ve extended the series using returns for the FTSE All Share Index and average house prices from the Land Registry UK House Price Index.