What's Unique About Real Estate as an Investment?

The short answer is that real estate pays you an income set by contract, lets you borrow most of the price against that income for years at a time, and lets your own knowledge and work change what it's worth. A stock gives you none of that, and a bond gives you only the first.

The income comes from a lease, which the tenant is legally bound to pay, while a dividend is something a company's board can cut. Commercial leases often run five to ten years with increases written in, and under a net lease the tenant pays the property taxes, insurance and upkeep on top of the rent.

The debt is patient. A bank lends against the building's income, with the building itself behind the loan, and the rate is often fixed for five to ten years. As long as you pay and keep to the loan's terms, the bank can't call it because values dipped, whereas a margin loan against stocks can be called the week prices fall. Over time, rents tend to rise with inflation while a fixed payment stays where it is.

You can also change what it's worth. A commercial building is valued on its income, the net operating income divided by a market rate called the cap rate, so raising the income raises the value directly. Leasing an empty suite or cutting an expense moves the price, and so do improvements like the loading docks and roll-up doors the new owner of Pelham at Hyland, on Pelham Road, plans to add. A shareholder can't do any of that.

The market is private and local. There is no ticker, and every price is negotiated among a handful of people, so there are mistakes and bargains, and someone who knows a submarket well has a real edge. Deals of a few million dollars are often too small for big institutions to bother with, which means an individual mostly competes with other individuals.

The tax code favors it as well. A commercial building, though not the land under it, is depreciated over 39 years, and that deduction can shelter much of the rent from income tax. A 1031 exchange defers the tax on the gain when you sell one property and buy another, and heirs inherit at the property's value on the day of death, so a gain deferred for decades can disappear.

Commercial property has advantages over houses beyond all of this. The tenants are businesses, the leases are longer, and tenants often pay for their own improvements and running costs. Above all, a commercial building's value comes from income you can raise rather than from what the neighbors sold for: a duplex is priced on comparable sales, and a strip center is priced on its leases.

None of it comes free. A building takes months to sell and costs several per cent of the price each way, and one building can be most of a person's net worth. The debt is where people get hurt. The classic way to lose a building is a loan coming due when rates are higher, or just after a big tenant leaves, and office buildings since 2020 are the textbook case. The leverage that makes the good years good makes the bad years worse.

Real estate suits someone with patient money and a long horizon, with enough cash in reserve to carry an empty space for a year, and either the time to learn one local market well or a partner who has. For that person it is one of the few investments where skill shows up in the return, rather than just owning the market and waiting.