Bird in the hand is worth two in the bush - Aesop 600BC
Investing can simply be put as a process in which upon thorough analysis, promises safety of principal and adequate return. For anyone looking into investing understanding available categories, before thinking about available choices within those categories could help with rate of return expectations. Broadly speaking I think most investors have these following options available with them
- Commodities
- Currency Denominated Investments
- Productive Assets
Commodities: Gold, Silver, Oil, Cotton
This category relates to items that don’t produce anything but we expect that someone will pay us more later on. One of such examples is Gold. If we consider all of the Gold in the world, its about 7.5 trillion. That accounts to owning total farmland in the United States(2.7 trillion) + 14 percent of all the stocks in the USA + 1 trillion of walking money or cash in ones pocket. Choose productive assets over unproductive assets are inevitably beneficial.
Gold may be a decent inflation hedge, however you could be speculating(hoping that other people will more tomorrow for the asset we hold). Keynes described it as “picking what you think that other people would pick in a beauty contest rather than picking the most beautiful women among the group”.
Other commodities like oil and cotton certainly have utility for humans. For investors, commodities can be an important way to diversify their portfolio beyond traditional securities.
Currency Denominated Investments - Bonds, Money market funds, Bank deposits, Cash
Almost all of the major currencies have declined in value over time with inflation. So unless we are getting paid extremely well for having them, holding this class of investments do not make much sense. Mostly this asset class produces lower returns with lower risk, for example bank deposit. But, its not the case always as in deflationary periods.
Productive assets - Farm land, Business, House
In this category, we decide how much to pay for an asset based on what the asset itself will produce. For example when we buy an acre of land, we expect the farm to produce certain average yield over a period of few years. There can be some years where the owner could be affected by drought etc, there will be some great years where the yields would be decent(based on several factors like better farming equipment or infrastructure etc). Investors can roughly calculate maintenance costs, taxes etc to determine the cash the farm can deliver to the owner. Our job as an investor is take this into account and pay a fair price for a successful investment.
When investing in stocks having this approach of looking at what the business does few years from now can help investors to be rational in mindset. Owning productive assets such as stocks(ownership in a piece of business) generally results in greater returns over the other two categories historically.
Investors can be classified as the following based on the amount of time they have to look for investment opportunities.
- Active Investors
- Passive Investors
Active Investing:
It refers to an investment strategy that involves ongoing buying of stocks or businesses upon thorough analysis, monitoring its growth prospects to exploit decent profits. An active investor will have to sell his investments even at a loss when expectations for the business change. Examples include companies like Dexter Shoes
Accounting is the language of business, so I expect active investors to be well versed with it.
Passive Investing:
For someone that is not having significant amount of time, Index investing provides the simplicity these investors need. Moreover, it is self cleansing, by which I mean companies can be added and removed from the index based on business performance at a very low fee. Looking at history, I feel this is what most people should focus on and just move on with things that they are interested about in life.
I believe investing is too important for most people to ignore since it has the power to change peoples lives.