Property vs Index Funds
What Changes When the Property Is 100% Bonded?
When comparing property investment with index fund investing, one question can completely change the outcome:
Was the property purchased with cash, or was it financed with a bond?
In a previous comparison, we looked at what would have happened if an investor had purchased a R1 million property in Lakeside, Cape Town, for cash at the end of 2015. We compared the property’s performance over the following ten years with investing the same R1 million into the MSCI World Index.
In that cash-purchase example, the MSCI World Index came out slightly ahead.
However, property behaves very differently when it is purchased using a property mortgage loan. Instead of investing the full purchase price upfront, the investor controls the asset using a relatively small amount of their own money.
To demonstrate this, let us reconsider the same Lakeside property, but assume that it was purchased with a 100% bond.
The initial property investment
The property was purchased in December 2015 for:
Purchase price: R1,000,000
Because the property was financed with a 100% bond, the investor did not need to contribute a deposit towards the purchase price. They only needed enough cash to cover the acquisition costs.
For this example, those costs were:
- Transfer costs: R20,000
- Bond registration costs: R20,000
- Total initial cash investment: R40,000
The investor therefore gained control of a R1 million property using only R40,000 of their own money upfront.
That is the first major difference between a cash property purchase and a bonded property purchase.
The bond assumptions
To keep the comparison simple, the bond calculation assumes:
- A 100% bond of R1,000,000
- A 20-year repayment term
- A fixed interest rate of 10% per year
- Monthly repayments of approximately R9,650
- Annual repayments of approximately R115,803
In reality, interest rates move over time. The actual repayment history of a South African home loan between 2015 and 2025 would therefore have fluctuated.
However, holding the interest rate at 10% provides a consistent assumption that allows us to focus on the broader effect of leverage.
The rental income
The property was rented from 2016 onwards.
The net rental income started at R41,820 for the first year and increased by 8% annually from 2017. The calculation also assumes that there was no vacancy during the ten-year period.
Importantly, this is net rental income.
The rental figures are assumed to be after expenses such as:
- Maintenance and repairs
- Municipal rates
- Levies, where applicable
- Rental management and placement costs
- Income tax on the rental profit
Over the full ten-year period, the property generated approximately:
Total net rental income: R605,000
The rental income did not completely cover the monthly bond repayments, but it made a substantial contribution towards them.
The monthly cash-flow shortfall
Over ten years, the total bond repayments came to approximately:
R1.158 million
Of this amount:
- Approximately R888,000 represented interest
- Approximately R270,000 represented capital repayment
After ten years, the outstanding bond balance was therefore approximately:
R730,000
When we subtract the R605,000 of net rental income from the R1.158 million of bond repayments, the investor was required to contribute approximately:
R552,000
This contribution was spread over the ten-year holding period. It represents the shortfall between the rental income and the bond repayments.
The investor’s total cash contribution was therefore:
Investment contribution Amount.
Initial transfer and bond costs R40,000
Bond repayment shortfalls over ten years R552,000
Total cash invested R592,000
Although the investor controlled a R1 million property from the beginning, they only contributed approximately R592,000 of their own money over the entire ten-year period.
What happened when the property was sold?
At the end of 2025, the property was assumed to sell for:
R3,300,000
After deducting agent commission, VAT on the commission and compliance costs, the net sale proceeds were approximately:
R3,133,000
The outstanding bond balance of approximately R730,000 then needed to be settled.
This left the investor with approximately:
R2.4 million after selling costs and bond settlement
The broad investment result was therefore:
Calculation Amount
Net proceeds after selling costs R2,400,000
and bond settlement
Total cash contributed by the R592,000
investor
Estimated profit before final R1,808,000
capital gains tax
The estimated profit was approximately R1.8 million before accounting for the final capital gains tax consequences of the sale.
Based on the assumptions used in the calculation, this represented a total return of approximately 305% on the investor’s contributed cash and an estimated annualised return of around 15%.
Why did the bonded property perform so differently from the cash purchase?
The answer is leverage.
When the property was purchased for cash, the investor committed the full R1 million at the beginning of the investment period. That R1 million could alternatively have been invested in the MSCI World Index.
The cash property and the index fund were therefore competing directly for the same initial capital.
In the bonded example, the investor did not need to contribute R1 million upfront. They contributed R40,000 initially and then funded the bond shortfall gradually over ten years.
During this period:
- The investor controlled a R1 million asset
- The tenant contributed towards the bond repayments
- The property increased in value
- A portion of the bond capital was repaid
- The investor benefited from the growth of the entire property, not only the cash they had contributed
This is one of the most powerful features of property investment.
The investor receives the capital growth on the full value of the property, even though much of the purchase price was financed by the bank.
The tenant’s contribution
It is sometimes said that “the tenant pays the bond.”
That statement can be misleading because rental income does not always cover the full bond repayment, particularly during the early years of ownership.
In this example, the property generated approximately R605,000 in net rental income, while total bond repayments were approximately R1.158 million.
The tenant did not pay the entire bond, but the rental income funded more than half of the bond repayments over the ten-year period.
Without that rental income, the investor would have needed to fund the full R1.158 million themselves.
The tenant’s contribution therefore played a significant role in the final return.
Leverage can amplify losses as well as returns
The result looks attractive, but leverage is not free money.
A bonded property carries additional financial and cash-flow risk.
The investor needed to continue funding the repayment shortfall every month. Had their income fallen or their personal circumstances changed, this obligation could have become difficult to maintain.
The outcome would also have been less favourable if:
- The property had remained vacant for extended periods
- The tenant had stopped paying rent
- Interest rates had increased significantly
- Maintenance costs had been higher than expected
- The property had required major renovations
- Rental growth had been lower
- The property had achieved a lower selling price
- The suburb had experienced weak capital growth
- The investor had been forced to sell during an unfavourable market
Leverage magnifies the return when the investment performs well, but it can also magnify losses when the investment performs poorly.
The key lesson
The conclusion is not that property is always better than index fund investing.
The conclusion is that the financing structure matters.
A property purchased for cash is fundamentally different from a property purchased with a bond.
With a cash purchase, the investor commits a large amount of capital from the beginning. The property must then compete with the returns that capital could have earned elsewhere.
With a bonded purchase, the investor uses finance to control a larger asset with a smaller initial contribution. Rental income helps fund the debt, while the investor benefits from capital growth on the full property value.
This can substantially increase the return on the investor’s own cash.
However, it also introduces debt, repayment obligations and greater cash-flow risk.
In order to come to meaningful comparisons we need to reduce each investment down to a set of percentages. Comparing these percentages can give a clearer outcome of risk / return / cash spent.
In our next article we explore the Internal Rate of Return as a signifiant investment comparison tool.