Cherie Howie shouted in today’s NZHerald that the sale of a Whenuapai (West Auckland) land sale was better than Lotto. Let’s analyse this claim and see whether we agree or not.
From the article we understand that an investment of $285,000 in 1995 increased in value to $7,000,000 in this month’s sale. Furthermore, the vendor said that the investment increased about 2500 per cent, about 30 per cent a year.
We don’t know if any improvements were made during the 20 years so we got to ignore it. Also an agent said that the property probably would not have achieved a sale of $2,000,000 only 3 years ago.
A key driver for the capital gain appears to be the development of the Westgate town centre and the extension of the North-western motorway.
In a financial analysis it is a key element to compare, so to say, apple with apple. We can do this by using a Return on Investment (ROI) calculation given the above variables and assumptions. To compare a property investment with financial investments is it sensible to assume monthly or annual payments of dividends or interest payments.
Hence, the ROI for this property is calculated as:
Number of payments = 20 for annual or 240 for monthly
Annual Interest (return) = to be computed
Present value (20 years ago) = -$285,000 It is negative as we had a cash outflow
Payment = set to zero as property does not receive such payments. For financial investments the price is a reflection of these payments over the time period.
Future Value = $7,000,000 as this is the price received in the future from the purchase in 1995.
Using a financial calculator or Excel we find ROI of 17.36% for annual or 16.11% for monthly
Do these Returns On Investment still look like a Lotto ticket? Let’s compare it to an investment in financial instruments like shares in a public traded company or fund index (a bundle of shares).
Here is a list of Vanguard index funds from one of the largest fund providers in the world. The fund is in a USA fund and data was available from 2000 to 2014. The first percentage in green is a comparison to the Standard & Poor’s 500 index. The second percentage is the ROI of the index fund. (source http://www.marketwatch.com/story/the-sp-500-index-is-not-your-buddy-2015-01-14)
Here are the 15-year returns for the other six funds:
Vanguard Value Index VIVAX, +0.12% 5.6%
Vanguard Small-Cap Index NAESX, +0.55% 8.3%
Vanguard Small-Cap Value Index VISVX, +0.49% 10.5%
Vanguard REIT Index VGSIX, +1.19% 12.5%
Vanguard International Value VTRIX, -0.18% 4.5%
Vanguard Emerging Markets Stock Index VEIEX, +0.91% 7.1%
At this stage, the property outperformed all of the Vanguard index funds and the S&P 500. How about an individual stock? What if we invested like Warren Buffett? Here a number of his best investment picks.
- Berkshire Hathaway (Buffett’s investment company) returned 22% annualized since it’s intercept 50 years ago.
- Wells Fargo 21% annualized over the last 24 years
- Freddie Mac 24% annualized over the last 13 years
Warren Buffett most people would agree is a fairly conservative investor and the above 22% return on Berkshire Hathaway would be on a well-diversified portfolio. (http://fortune.com/2014/10/31/warren-buffett-best-investments/)
How about the 10 most profitable companies in the world over the last 20 years? (http://www.finance.yahoo.com/news/20-most-profitable-companies-world-175534730.html)
- The 10th best performing company was Microsoft Corporation 12.17% annualized
- 5th best performing company ExxonMobile 7.09%
- 2nd best performing company Apple Inc 25.06%
Now, after that we have simplified and standardized the different investments we can compare them.
First, comparing Return On Investments, Apple Inc had the best return with 25.06%, followed by Freddie Mac 24% and Berkshire Hathaway 22%. Warren Buffett’s picks. The Whenuapai properties return at 17.36% is lower than the share investments. However, it did perform better than the Vanguard index funds and the S&P500.
Do these differences look significant to you? Not sure? OK let’s convert them back to an attention grabbing dollar amounts.
The Apple Lottery ticket would have grown to $25 million
The Berkshire Hathaway Lottery ticket from Warren Buffett would have grown to $15 million
The Vanguard VISVX Lottery ticket would have grown to $2 million.
With the benefit of hindsight, which Lotto ticket would you have liked?
PS Risk … yes there is risk in all investments. That’s for another post.