Monthly Archives: October 2014

Return on Investment for Various Assets

Return on investment has varied dramatically across asset classes.  Cumulative total return on investment of $1.00 in stocks have outperformed those for gold by over $480K in the 206 year period from 1802 to 2008! Similarly, stocks outperformed bonds by nearly 3% points per year which equates to $479K  over 206 years.  Below is a table on the compounded total return on $1.00 invested in various asset classed:

Total Real Return on Investment of $1 (1802-2008)

Asset Real Total Return Annual Growth Rate
Stocks $480,873 6.5%
Bonds $1,577 3.6%
Bills $306 2.8%
Gold $3 0.5%
Dollars <$0.10 -1.1%

Source: Common Sense on Mutual Funds, J. Bogle 2010

Using data from Irrational Exuberance (R. Shiller), the US real home price from 1890 to 2014 appreciated from $1.00 to $1.34, an annual compound growth rate of 0.25%.  While this is not over the same period of time, it is evident that homes have no real return on investment  over a long period, especially when considering the available alternatives.

Never Invest in the Commodity Market

Stating the obvious sometimes seems unnecessary.  Yet, people are willingly buying into the fad of ever more specific ETFs being created in seemingly every permutation of underlying asset classes which now unfortunately includes commodities.  If you put something in their face, they will buy it. There is no rationale for adding room for passively adding commodities to your portfolio.  Veer clear of the commodity market.

The slight benefit of improved diversification is outweighed by the huge drawback of it providing no real returns with sometimes large volatility.  Commodities do not generate income like other assets and rely solely on the greater fool theory to ever make a profit.  To read a more eloquent rationale for avoiding gold, check out Warren Buffett’s 2011 Letter to Shareholders:

http://www.berkshirehathaway.com/letters/2011ltr.pdf

Ignore for a second the high management fees, low trading volume, and wide bid/ask spreads.  Who would choose to “invest” in an asset that has performed just marginally better than cash over the last 200 years (see Common Sense on Mutual Funds by J. Bogle)?  To make matters worse, the commodity market can be subject to significant volatility and thus a speculative commodity position offers atrocious risk-reward ratios.

Heretofore, to avoid confusing the reader I will refer to speculating in commodities as hoarding instead of using the term “investing.”

Common Mistakes in Asset Management

Understanding the basics of asset management is a necessity to building personal wealth. Individual investors can make irrational and costly decisions that otherwise could have been avoided.  Too often, people are able to prudently save excess cash to invest, but having no experience or interest in making an educated decision, they end up making foolish mistakes.  Below is a list of the most common mistakes:

  1.  Holding too much cash.

The first mistake is remaining too risk averse and never building a portfolio at all.  While it is strongly recommended to create an emergency fund in addition to having liquidity available for expenditures, at some point you need to put your excess cash to work and begin asset management.  Prudent budgeting should help you determine how much to hold in reserve and when to look into assets with higher rates of return. Read more