Investing Is Like a Cup of Coffee

If, for the same price, I offer you less coffee in a better cup, or charge more for the same amount of coffee but in the good cup, would you take the good cup or the paper cup?  Many would not take the exquisite cup.  They understand that the coffee is the important part and the cup is merely a package.  Not everyone would assess the situation the same way and that is okay, too.

Life sometimes has components that we choose without challenging the details to understand what we give up to get them. Sometimes we end up paying for something that we do not value.

Investments are like that sometimes.  For example, one of the factors that affects the yield on a specific investment is, “How fashionable is it?”

A limited partnership interest in a feature film is quite attractive for its ability to be a topic of discussion at the country club.  Tax sensitive and maybe you get to go to the cast party when it is done.   Not so attractive in terms of what it could earn.  A mutual fund that is environmentally or politically or health sensitive may feel good, but do the feelings replace the cash shortfall that may result.

Social and sensitive decisions are not always in your best financial interest.

All investments pay the same rate of return.

Here’s how.

You bring resources to each investment.  Money is obviously one of them but there are many more.  Risk tolerance, predictability, time as in the need or non-need of liquidity, access to the investment, ability to manage the investment, special knowledge or skills, and your tax position, are all things you may have and could be paid for if they are present.

If I decide to be a distributor of cocaine, my rate of return on money invested may be quite high, even after deducting reasonable expenses for body guards, bribes and sub-distributors.  But I am not only being paid for my cash investment.  I have invested more than that.  I need contacts, and time, and management ability.  More importantly, I am being paid for my investment of the not small probability that I will be executed or imprisoned.  That is what the extra cash return is for.  People who distribute orange juice seem to have a lower return on investment but if all things are considered, they do not.

Similarly investments can pay you in different ways.

Possibly in money.  Interest, dividends or growth.  But also possibly in other ways.  The investment might reduce an expense you incur.  For example, I might buy a hot water tank instead of leasing it.  The investment may be fashionable like the movie investment above.  The investment may create a tax preference or it may be exchangeable for some other investment or I may need no skill or time to participate.  If the investment pays you in other ways, you may reasonably expect the cash return to be lower.

The yield on an investment balances your ability to contribute with the investee’s need to get the capital for the lowest possible cost to themselves.  In the long run you can get no more than the capital is worth to the investee and many of them will make pretty packages so that you will overlook the fact that cash on cash may not be that attractive.  Pay attention.  It is just a package and you may or not value it.

Your optimal investment is one where all of your money and other resources are employed and there are no discounts from cash yield as the result of the investee offering payment in forms other than cash for things you don’t want.

It will pay you to understand what your investment resources, other than money, may be.  Once that is clear, you can tell when an investment is outside your comfort zone.

Don Shaughnessy is a retired partner in an international accounting firm and is presently with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.

don@moneyfyi.com  |  Twitter @DonShaughnessy  |  Follow by email at moneyFYI

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