I was raised in a different time, but the basics are somewhat the same today.
I have young friends that know very little about investing; I suspect that is somewhat intentional of our system: a little like religion in that, “The more we can complicate it, then, only they can un-complicate it.”
In my era, the work ethic was strong. My dad said that you never borrow money; you save, then if you want to buy something you pay cash. Later in life when I wanted to buy a car, the message was “save, save, save until you can pay cash.” Later I asked how would you buy a house? Dad, who lived through the 1930’s depression, indicated that’s the only time you borrow, and in his time you needed about 50% downpayment.
So the formula was work, then put the money in a savings account which paid 3%. I liked the idea of ‘free money -3%’ from the bank. The first mention of ‘investing’ Dad mentioned was savings accounts, stocks and bonds, and real estate. Investing was yet a mystery, it wasn’t until I took a college course, “engineering economics” that opened a door. It covered the mathematics of decision making. Such analysis can be very complicated or very simple, so I’ll start with very simple.
Thus, the simple and the complex version asks the the same question, “what’s the rate of return?” – more commonly the “internal rate of return” in which we deduct all costs related to an investment and then estimate the rate of return thereafter.
This analysis reminds me of President Eisenhower when he wanted his successor to be R. Anderson who was Secretary of the Treasury. As a youth Anderson asked, “what is a dollar?” In his time, a dollar sometimes consisted of a ‘silver certificate’ which translated to be 0.9 ounces of silver. In his search for the answer, he ended up as head of the U.S Treasury. Today, it is an unsecured promissory note backed by the good faith of the U.S. government and doesn’t have a specific valuation.
So, the question,”what is a reasonable rate of return?”
A reasonable rate of return, now becomes a function of the risk involved. For example, today’s savings accounts, whereby we lend money to the bank, can yield about 1% because it’s considered to be risk free. If we invest in a local manufacturing that makes great shoes, the risk becomes much higher, thus a reasonable return will be much higher.
So, in my next blog, Finance 102, I will mention some of the basic methods of investing and explain words like stocks, bonds, simple partnerships, loans, leading to others, and some of my first investments.