The appeal of investing in a buy-to-let property has declined over recent years. Tax changes, an uncertain economic outlook and more difficulty obtaining finance have contributed to a less favourable risk/reward ratio being on offer.
Furthermore, the investment potential of the FTSE 100 appears to have improved. The index now has a 4.4% dividend yield, which could be more enticing than that offered from a buy-to-let property on a net basis.
With the FTSE 100 having the potential to capitalise on global economic growth and it offering less risk than buy-to-let property due to the ease of diversifying, now could be the right time to buy large-cap shares rather than property.
While it may still be possible to obtain a 5%+ income return from buy-to-let property on a gross basis, on a net basis the figure is likely to be much lower. Costs such as higher taxes, agent fees, void periods and repairs all reduce a landlord’s income. And with house prices having risen substantially over the last decade, the reality is that the income return on buy-to-let properties may be relatively unattractive.
This contrasts with the income return on FTSE 100 stocks. As mentioned, they offer a 4.4% dividend yield on a gross basis. For investors who buy their shares through a tax-efficient product, such as a Stocks and Shares ISA, the net figure could be the same as the gross figure. In other words, they may be able to generate a higher net return from their shares than from a buy-to-let property.
Clearly, the shortage of homes in the UK when compared to demand means that house prices may continue to rise in the long run. However, the pace at which they grow may lag their past performance. Affordability issues and the potential for political risk could weigh on the industry to some degree, and may mean that a period of more modest house price growth is ahead.
The FTSE 100, meanwhile, could enjoy strong growth over the coming years. Major economies such as India and China are expected to post significantly higher annual GDP growth when compared to the UK, and the FTSE 100’s international exposure may allow investors to take advantage of it. This may mean that the FTSE 100’s growth rate beats that of UK house prices.
As well as offering the chance to diversify internationally, the FTSE 100 also provides all investors with scope to buy a range of stocks. The cost of investing has fallen in recent years, and this means that diversification is a realistic goal for all investors.
Buy-to-let investors, however, are unlikely to have the same level of diversification in their portfolios. The higher cost of buying property may mean this is an unattainable goal for many landlords. This may lead to buy-to-let properties being riskier than buying FTSE 100 shares, making the latter a more appealing investment opportunity.
Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.