The Best Way To Get Rich: Turn Funny Money Into Real Assets

Funny Money

POOF! Funny Money Be Gone

The US stock market is on fire right now and everybody is getting rich – well, everybody who decides to save, invest their savings, and take some risks. For everyone else, this bull market is a disaster because everything gets much more expensive when everybody gets rich.

The first stock market meltdown I ever experienced was the 1997 Asian Financial Crisis. International college students from countries like Korea and Indonesia had to drop out because the Won and Rupiah depreciated so much, making tuition unaffordable. Construction cranes stopped moving in Bangkok and the IMF had to bail out the entire region. Of course some people made a killing in the downturn when they swooped up assets for pennies on the dollar. But most people lost their shirts.

Then when things really started getting good again in 1999, the NASDAQ collapsed in the Spring of 2000. I only experienced one brilliant year of mega exuberance after college before the floor fell out in March 2000. Many people in finance lost their jobs and then 9/11 happened. I remember seeing my stock portfolio go from $3,000 to an absurd $200,000 in six months, and then lose about $40,000 in a couple weeks when B2B stocks started imploding.

Where does all the money go? It’s all funny money! I remember thinking. Paper millionaires who exercised their stock options early and didn’t sell not only lost everything, they also owed huge tax bills as well. The government always wins. 

REMEMBER WHY YOU WANT TO GET RICH

Most people start off investing with the simple goal of making more money with money. Eventually, your financial nut grows to the point where you start getting tired of the idea of just making money for money’s sake. You actually want to use your money for something. Which is good, because money should be earmarked for purposes e.g. kid’s tuition, early retirement, more free-time, charity, a room with a view, etc.

When a stock you are long goes from $10 to $100, you feel like a genius. Everybody is a genius in a bull market. The trick is to not really believe you are really a genius, but simply a financial engineer who carefully asset allocates his or her money in the most optimum way possible. By developing a methodical habit of re-investing your savings into your decided asset allocation model, chances are high that you will have more winners than losers over the long-run thanks to the tailwinds of savings, inflation, and demand.

When I saw $40,000 of my paper profits disappear into thin air at the age of 23, I came up with a promise. That promise was to turn funny money, vaporware, any type of lucky break, windfall, and unexpected stock market profits into something tangible. The only way I could make the tangible thing disappear would be to set it on fire or blow it up with a grenade.

Funny money is the medium by which one makes something from nothing.

Vaporware refers to companies who make nothing tangible, but who have hefty valuations because of expectations for future growth. Many vaporware companies are unprofitable and are just expecting investor sentiment to continue buoying them along until they can stand on their own two feet. Companies in the social media space are good examples of vaporware. Many people are getting super rich and I encourage those who are fortunate enough to profit from this space to diversify into physical real assets.

COMMON REAL ASSETS TO BUY

1) Real Estate. Property is the most logical real asset to buy with funny money when you first start out because you are likely renting an apartment unless the Bank Of Mommy And Daddy hooked you up right after college (more common than you know). One of the main problems with real estate is that real estate limits mobility. Make sure you know with high certainty that you will be there for at least five years because transaction costs are still egregiously high at 5-6% of selling price.

I do believe the best time to buy property is when you can afford it. Once you’ve bought your first property, you can consider investing in other income generating properties. But at the very least, try and be neutral the property market by owning your own home. Check out my Real Estate Category for more.

US Home Price Expectations for 2014 And Beyond2) Precious Metals. Gold and silver can grow in value and act as a hedge against a decline in the US Dollar due to government upheaval and periods of war. Unfortunately, precious metals provide no tangible value, don’t produce any income, and are not very fun to own, unless you are talking fine jewelry and watches.

The below chart shows that Gold has been a dog of a performer compared to the S&P 500 over time. However, notice how Gold really started to rise since 2000 (internet correction) and 2008 (financial crisis). Once the Federal Reserve started cutting interest rates aggressively and pumping lots of dollars into the system, Gold became a relatively more valuable commodity. But if you look at CPI adjusted returns, gold really started losing out to stocks in 1991. Own precious metals if you think doom is on the horizon.

Gold vs. S&P 500 Chart

3) Valuables & Collectibles. Classic cars, coins, and stamps have all outperformed the MSCI World Index over the past 10 years according to The Economist’s chart below. The prices for Van Goghs, Warhols, and Vermeers have done well thanks to fixed supply and a massive creation of the newly rich from countries such as China. Once you buy your mega mansion, you’ve got to decorate the walls. Besides insurance, there’s little maintenance costs for fine art, just the initial frame, setting, and security details. When you can visibly enjoy your investment everyday and make money from it, what a joy.

Not buying fine art is one of my biggest regrets because I thought I couldn’t afford it. I was naive to think that buying fine art meant just buying an original. The reality is that the entire chain of fine art from originals to third edition prints have rose in value. The only thing I collect are ancient Chinese coins and stamps. But I collect coins and stamps because I enjoy them. I love to flip through my collection and attend coin and stamp fairs when I have time. There’s just something about owning a piece of memorabilia that’s so fascinating.

Chart of Fine Art And Valuables

4) A Cash Cow Business. Owning a cash cow business not only generates an additional income stream, it also allows you to deduct your ongoing expenses. Relevant travel, lodging, transportation, electronic equipment, and meals can all be expensed, thereby reducing your tax bill by your marginal tax rate. Of course not all businesses are created equal, and there is plenty of risk in buying a business, so do your due diligence.

My only expertise is running an online media company. In my biased view, running an internet business is the best business in the world due to high margins, low capital expenditure, a huge potential demand curve, scaleability, and good flexibility. When buying a business think about potential for margin expansion, sustainability of earnings, defensibility of the business model, and payback period to name a few.

Common Theme: Buy Experience-Generating Machines. Whether you buy a vacation property to enjoy with your family, a Degas to hang on your living room wall, a Patek Philippe rose gold watch to wear everyday to work, or a lifestyle business that generates 50% operating profit margins, make sure that all your purchases have the ability to also generate wonderful experiences. We already know there’s a good chance such assets will appreciate over time. But experiences tend to appreciate even quicker in value than real assets.

YOU CAN’T GET RICH DEPENDING ON LUCK ALONE!

There has to be meaning towards the money you accumulate in your savings accounts and investment portfolios. The goal is to find a real asset that has meaning to you because luck tends to run out. How many times are you really going to inherit $500,000 from your Aunt Sally? Once. How many times are you going to make large year-end bonuses until you burn out? Maybe only a handful of times. How long will you enjoy an incredible bull market before there’s another violent correction? Maybe seven consecutive years if you are truly fortunate.

If you’ve ever gone to a casino and gambled, you’ve likely experienced two things:

1) The stupidity of making a lot and then losing it all.

2) The absolute joy of walking away with a profit and turning the funny money into something that lasts.

We can’t get lucky all the time, even for those of us who work obscenely hard to try and create our own luck. Not only that, there’s a tendency to sometimes go crazy when we receive an unexpected windfall.

Convert luck, funny money, and windfalls into real assets. The real assets might not last forever, but they are a great way of diversifying your good fortune into something more. I’m currently using my online business income to pay down a rental property mortgage and look for new property as well. I’d like to one day look back when I’m 70 and say that my rental property was paid for with online business funny money before I ran it into the ground!

RECOMMENDATION FOR BUILDING WEALTH

Manage Your Finances In One Place: The best way to become financially independent and protect yourself is to get a handle on your finances by signing up with Personal Capital. They are a free online platform which aggregates all your financial accounts in one place so you can see where you can optimize. Before Personal Capital, I had to log into eight different systems to track 25+ difference accounts (brokerage, multiple banks, 401K, etc) to manage my finances. Now, I can just log into Personal Capital to see how my stock accounts are doing and how my net worth is progressing. I can also see how much I’m spending every month.

The best tool is their Portfolio Fee Analyzer which runs your investment portfolio through its software to see what you are paying. I found out I was paying $1,700 a year in portfolio fees I had no idea I was paying! There is no better free financial software that has helped me more to achieve financial freedom.

Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. G says

    My experience with building wealth is with real estate. I had purchased a property in my late 20s, only to triple now after 14 years. It has also given a good rental which I invested in CD with 8% return. Overall that house had helped me achieve some wealth accumulation. My current residential home could potentially pay itself off only if i downsize and move to somewhere else, so that is what I am aiming for now. I do allocate 30K on stocks, but I have been somewhat cautious – trying to buy on low and selling on high even if I earn $50 at a time. I like to think of this money as my pocket money – pays for my cell, internet etc. Some days I lose but overall it helps. I have no guts to invest long term and always afraid of losing the 30K.

    • VS says

      What CD gives you an 8% return ? I have been looking at CDs for sometime but I am getting discouraged by the 1-2 % returns. Had almost settled on opening a Vanguard account for a three fund portfolio . But, your comment piqued my interest. Please do elaborate on the CD you were talking about.

        • Rob in Munich says

          Sorry but it you need to use stop losses than you’re buying the wrong stock. Secondly if you’re investing in the right companies than a correction is a chance to buy everything on sale

          I’m a buy and hold dividend investor (in this case specifically in the Canadian market) and recently with QE a lot of Canadian REITs crashed in price, rather than sell out I sold off some profitable stocks (ideal is to use fresh capital but not always possible) and reinvested the profits there. I know own a bunch of quality REITS as yielding over 8% and at low risk.

          I’d be happy for a correction, it means all the yields would jump.

          Best investing book is Millionaire Teacher bar none. Alternative is to google Dividend Growth stocks

          I’ll add in comments to Sams post in a separate comment.

          Rob

          • Rob in Munich says

            Afterthought. Stop loss orders are helpful if you’re a trader, not so helpful if you’re a long term buy and hold investor.

      • Babets says

        It depends! Stop losses are great but bad for 2 reasons:

        1- if a stock opens in gap down or collapse after hour you are screwed
        2- if you put a stop loss too close and the stock is thin you may sell it before it goes up again

        On property rental location is everything in the end as you point out often Sam

        Good luck to all!

        • gary martins says

          1- you can use a stop limit order to prevent this
          2- agreed – which is why I usually trade stocks with tight spreads (meaning there is a good market for that stock). if you check out the chandelier exit it takes volatility into account and can help you select a good exit price

    • Ricky says

      That’s ironic you say you have no guts to invest long term yet you admit to trying to beat the market…I recommend doing some heavy reading on the difference in investing and speculation.

      • G says

        That is why I mentioned it is my fear, everytime I invest for long term, I look at it everyday and pull out when I cannot stomach it! Then I re-invest when I think ok I will get a good deal. It is a vicious cycle and really got to do with my emotions. I should invest and not look at it – but I just cant.

        • Rob in Munich says

          Understand how you feel, switch over to dividend growth stocks and sleep better at night. In other words buy and hold quality dividend stocks.

  2. says

    This is a timely article. I just rebalanced my portfolio to add some money to bonds. It’s tough to sell stocks now that it’s doing so well, but you need to be disciplined and do it.
    We sold 2 rentals, but will pick up another one close by. So it’s a wash on that front. I don’t like gold and collectibles, though. Expensive collectibles just don’t mix well with a crazy 3 year old. I guess I should pick up some gold…

    • says

      Good luck on the new property hunt! I’m surprised you decided to sell both rentals at the same time. I take the different approach of buying and holding real estate for as long as possible. Ideally, forever.

      • Self Made says

        I agree, I believe in holding real estate. Not always easy when values jump around, but I like tax breaks, positive cash flows and increasing equity every month courtesy of my tenants. Always appreciate validation in my approach, don’t love the insecure side of myself when it comes to investing, but I am self-aware.

  3. Austin says

    I realize this isn’t everyone’s thing but I find that guns and ammunition are solid tangible investments with no associated carrying cost.

  4. Ravi says

    I agree. Over time, real assets are a good tool to build wealth. It’s an asset class that tends to appreciate very slowly, but steadily, and spits out a ton of cash.

    If it was possible, and I had the time, I would invest all my money in investment properties and reinvest for 5-10 years, and then, start allocating the cash flow into market investments. All that cash flow for the rest of time, who cares if it underperforms the Dow?

    • says

      The one other common theme of the charts in this post is that practically everything goes up and to the right. So, the basic idea is to start accumulating assets first, and diversifying into real assets that you can also enjoy.

      Because at the end of the day, money isn’t worth anything but the paper it’s printed on. It has to be converted to something. Appreciation potential + utility = more happiness.

  5. Jay says

    good article, very timely as well, I just converted my cash to 2 rental properties and invested in index funds and dividend stocks. (finally convinced my wife on not holding into too much cash)

    I don’t think I’ll ever into fine arts or any collectors items. Maybe when I get older.

    • says

      Nice. Enjoy the cash flow!

      It takes a lot of effort figuring out how to properly deploy cash doesn’t it? You want a return, but you want to protect it with your life too. Like releasing your kids to the wild!

  6. Ace says

    Very interesting. Looks like classic cars are a real winner!

    Buy dividends. If you buy dividends, it is like owning a high cash flow business with very little effort on your part.

    Look for things which are recession proof. Like cigarettes for example. Maybe an Altria? Powerful addictions such as cigarettes always do well. Caffeine and liquor are good too. And the growing population still has to eat, even if unemployed. Hold these stocks forever and enjoy the quarterly dividend checks while you go about your life. Even better: a drip plan. Put it on autopilot.

      • Ace says

        Sam,

        I’m a fan of classic cars. But it something that must go beyond just being an ordinary investor. You really must have a good understanding of the value of these machines. If you’re not into cars, the risk is super high.

        But on the positive side, it’s much less costly or as esoteric as airplanes! Interestingly (for some folks), thirty+ year old single engine airplanes (in great condition) also seem to grow in value.

        Art…… I love art….. But dude, I just can’t really value that stuff! I might drink wine, but I’m too blue collar to deal with art. I do think rare coins are an interesting hobby with value potential.

        In any case, Sam, you have made valuable points with this post. I think it’s better to live in the physical (real) world.

      • Ace says

        Just wanted to add: I know a guy that runs a very lucrative side business, restoring classic corvettes. There really is good money in this. Or things like this.

        But again, you really need considerable knowledge/expertise in these products, and there is a certain amount of liquidity risk.

        But things like classic cars (or other interests) can certainly be a very profitable hobbies. The hunt for treasures is very fun and you get to meet interesting people!

        You have to understand liquidity risk with these type of investments. When the economy is crashing, it may not be possible to turn these things into cash very quickly. If you find these kind of investments interesting, it is very important to maintain a larger than usual cash position.

  7. says

    I feel the single most important asset that anyone can invest in is themselves. I invest in learning a new skill set, building new relationships, and putting time into my business so that it continues to grow passively.

    • says

      I can get behind that advice. I wonder whether the cost of investing in yourself gets cheaper and cheaper though. All I do now is read a lot of free books and articles online. No more b-school or anything.

  8. says

    We’re buying up rental properties this year for a lot of the reasons you’re noting, Sam. We’re still investing in the market, too, but are more excited about the little income streams each house can produce.

  9. says

    I just plow ALL extra money into paying off our mortgage. Funny money or not, I don’t really care. If it’s anything extra after paying our expenses and investing it goes to principal payments. After mortgage is killed next year it will all go into additional investments. Makes any funny money a non-event really. Simplicity works for me.

    • Ricky says

      Paying a mortgage off vs investing the windfalls you may get depends on how good the investment is. If you can make more in interest by % than you are paying in interest by % it’s wiser to invest.

      • Ace says

        That is the common way to look at it.

        But…. You could also try to value a lifetime of rent free/mortgage free cash flow stream. Example: let’s say homes in your neighborhood rent for $2000/month.

        So that’s $24,000/year in extra cash flow you do not have to pay out because you own your home “free and clear”. $24,000 divided by a conservative discount rate of 4% (30 year treasury bond) would be like having a $600,000 fixed income investment.

        • says

          That’s pretty much how I look at it too. The house will be paid off next year and my fixed monthly expenses will drop dramatically right away. Don’t underestimate the value of knowing that you owe nothing to anybody. If it all goes to hell my family will be just fine even if just one of us got a minimum wage job… or flipped a few things on Craigslist per month… or cut a few lawns etc. For me, that’s some powerful stuff and a lot more tangible than chasing hypothetical returns!

          • Ace says

            I have to say: I have come around to similar thinking. There is considerable value in being mortgage free. It is difficult to mathematically quantify, but it is certainly there. Think of the life style options you have when mortgage free?
            Or the ability to invest in risky ventures because, your home is already paid for?

            “Freedom”?

  10. says

    I have my 11th rental property under contract! I know where my money is going. I have not made much in the stock market, because I don’t invest in it. I make my money with real estate and put it right back into real estate. So far my returns are just as good or better with real estate than the stock market and I feel it is much more stable.

    • G says

      Mark – do you invest in a particular type of home, or price structure? Instrested to know what is your criteria.

      • says

        Hi G, most of my rentals are bought from $80,000 to $130,000 and rent from $1,200 to $1,500. I am in northern colorado and our taxes are really low. Around .05% of the value per year.

        Most homes are in middle income neighborhoods. It is hard to find good deals right now with our market taking off.

  11. says

    The only thing I do which I consider investing is paying my mortgage down early.

    Sure, I’m in the stock market. I invest in myself with education and training. Precious metals is nice if, as you say, you see societal doom on the horizon (although having lived through the 80s gold boom, I respect riding a bull market).

    I’m much more interested in investments that produce cash flow, be it rental property, P2P lending, dividend stocks, etc. Capital appreciation is nice, but cash flow typically comes from something someone needs, now, repeatedly. Capital appreciation can be very fickle, especially for “art”, be it stamps, paintings, or Beanie Babies…

  12. Bikramjit Singh says

    Putting funny money into real estate or property really makes sense.Although stock markets still remain the best asset class in the long run,are easy to buy or sell owing to liquidity but property prices remain more stable. Likelihood of going into loss by investing in real estate remains low compared to stocks.I would definitely like to increase my exposure to real estate.

  13. Kris says

    Investing in our kids seems like a good idea at this point. I guess they could have gone to the local community college (I teach there, they’d have free tuition), but with their AP credits and college-in-the-high-school, they really don’t need the level of education we offer. Perhaps we could have been more frugal, but as long as they got 50% in merit scholarships, we’re footing the rest of the bill. It’s twice our mortgage every month, so a good thing it’s finite. Then we can work on the mortgage.
    But the “room with a view” resonated for me. We would have paid off the mortgage in a previous house about now had we not downsized to something a tiny bit bigger but with a phenomenal view out in the woods. Part of living for today. Still pretty ruthlessly saving (over 50% of our income), but enjoying the view, too.

  14. Rob in Munich says

    Hi Sam

    I’m a Canadian living and planning on retiring in Europe and have been struggling with how and where to invest. Sending Euros to Canada/US fanatic, bringing them back to pay the bills, sucks big time.

    It would take too much space here to explain in detail but my wife and I became accidental landlords when we got relocated and I found out what a sweet deal being a landlord in Germany is. Short version is almost all the costs associated with owning an apartment (i.e. condo fees) can be passed on to the tenant. Up to and including property taxes, upgrades etc. Even better yields can be up to 5%. Plus loads of opportunities for tax write offs

    Negative: income is taxed as ordinary income, and in our case our marginal tax rate is 45%, vs 25% for capital gains.

    But like real estate everywhere its location location location. I spent a year looking for places, and can’t tell you how many times I found what I thought was an awesome bargain only to find it rotten on beneath the surface. But evenually I did fine two more units. So for me three is enough, all profits will be reinvested back into the Canadian market.

    So to answer your question, took our profits in stock Canadian stock market and turned it into a Euro generating real estate.

    Oh yeah we’ll be cash flow and tax even for about 12 years, once my wife retires I’ll have to revisit how to structure it.

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