Today, we’re talking about investing as it relates to the news about Prince’s estate?
You’ve got it. As details have emerged about Prince’s estate and his holdings, some interest has bubbled up about how he invested his wealth. And it was an unusual mix. He had a little over $100,00 in cash in four bank accounts and $6 million in his publishing companies. He owned land and properties worth $25 million and had 15 cars. And he had 67 10-oz. gold bars, worth almost a million dollars. But he had no stocks or bonds. When people see this, it may cause them to consider this asset allocation as a possibility, so I wanted to review it this morning.
Let’s jump right in, starting with the gold bars. Is investing in gold a smart move?
It really isn’t. Why? Because it is not a productive asset. The value of gold is only based on what people will pay you for it. It doesn’t create any additional value. To paraphrase Warren Buffett, if you buy an ounce of gold today and you hold it one hundred years, one hundred years from now you’ll have one ounce of gold.
In contrast, the Dow Jones Industrial Average was at 66 at the start of 1900. At the end of the century, it was 11,400. One gains value because it is a market of stocks – ownership of small segments of companies – that generate profits and produce value. The other is an object that produces nothing but the value that people will pay for it.
If this is the case, why to people buy gold?
In general, gold’s value is based on fear. Investors buy it when they think currencies are shaky or whole economies are wobbly. Gold bugs, a term used for gold investors, tend to peddle uncertainty. They assure you that you can make money because times are bad and are getting worse. Although many people try to make that argument, the opposite is true. The global economy is growing, and corporations are making profits. But the fear over the economic future does fuel numerous gold scams. You want to avoid people who are peddling gold.
What about real estate? Prince had numerous real estate investments. How does this compare to stocks?
First, we need to differentiate between buying a home and investing in real estate. Buying a home as an investment is much like buying gold, in the sense that it is not producing anything. You are essentially betting on the fact that it will appreciate, and that people will place a higher value on it over time.
You might recall that before the housing crisis, in the housing boom of the 1990s and 2000s, everyone thought that buying a home – oftentimes a home that was beyond our means, was a good investment. Many saw it as a good place to store money that would provide us with big returns over the years. The truth is that has never really been the case for homes.
Now let’s consider buying an investment property. While that can generate value for you as an investor, there are a number of possible negatives to consider. First, numerous studies have shown that your return on investment buying real estate is almost always lower than the return you would get in the S&P 500, and most of the time it is significantly less.
The S&P 500’s average annual return from 1928 through 2014 is nearly 10%, versus an annual appreciation rate around 5% between 1968 and now. Additionally, the risks associated with such an investment – time between tenants, the costs of insurance, upkeep and management, the uncertainty of the real estate market and the fact that it is not a liquid asset – can be large. So, if you are thinking of buying a home as an investment rather putting your extra dollars into your 401k, you might want to reconsider.
So is this the equivalent of a person hiding money in their mattress?
We can speculate this is the case, but no one can really determine what Prince’s motivation was. But I can say that for everyday investors, the stock market is going to get you a lot more value in the long run than a chuck of metal or a rental property. Invest for the long-term, and you will be rewarded!
Mellody is President of Ariel Investments, a Chicago-based money management firm that serves individual investors and retirement plans through its no-load mutual funds and separate accounts. Additionally, she is a regular financial contributor and analyst for CBS News and CBS.com.