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There are many myths
and facts about investing.
Some pseudo facts are that, high return investments
are risky and low
risk investments are safe. The truth is,
there isn't any exact curve that'll give risks as a
function of return. Low return
investments can be very risky too when
fraud happens, for example.
However, the pseudo fact that risk correlates with
return have some truth in it. You need to understand
what causes it.
Money doesn't make
money. People make money. Someone else
will have to work on that money so the money can
produce more money. Let's call those people workers.
Workers here include CEOs, Entrepreneurs, all the way
to blue collar workers. Those workers organize various
resources, including your money and themselves to
maximize their yield.
How much each worker gets depend on supply and demand.
Currently, due to centuries of prosecution and
genocide, people that are risk taking enough to be
entrepreneurs, or love to learn enough to be CEOs are
under represented in the gene pool.
The market values the rare. So entrepreneurs and CEOs
tend to get paid way higher salary than blue collar
workers, which are often investors.
The commies, realizing that, switches side by
supporting the interests of capital owners against
workers' interest by demanding lower CEOs salary.
Here, investors are those who just put their money and
do nothing else for the business.
If you invest
in your business
then you are both investors and workers. Your return
as an investor is the amount of profit that the
workers are willing to share you. For simplicity sake,
let's just say that the business
is already established with constant revenue.
Say the business
earns $100,000.00 a year. Now, the total assets of the
business
might only be worth $100,000.00. So in a sense, the
workers in that business
just get 100% ROI per year right? However, even though
the total assets of the business
are only $100,000.00, the business
isn't worth $100,000.00. Any business
that yields $100,000.00 per year must be worth
$500,000.00 at least.
Here's the catch. Why in the earth are workers willing
to sell their businesses to you for a mere
$100,000.00? Just like workers have market value,
money's salary has market value too. We call it interest
rate. The workers know that it's good
enough for you to get 20% ROI per year.
Hence, he's not going to sell the business
to you for $100,000.00. He's going to sell the business
to you for $500,000.00. If you pay $100,000.00 he'll
only agree to give you 20% of his business.
You see. In a sense, business
ventures do not follow the pseudo fact mantra of
"High risk high gain low risk low gain". The
risk and the gain depend on the skills of the
entrepreneurs and not on those curves.
However, when offers come to potential investors, that
mantra is used by workers to decide the ROI they feel
the investor deserves. If the entrepreneurs realize
that they their business
is quite safe, he'll simply give investors low ROI.
And that's how the low risk low gain high risk high
gain mantra becomes a reality in the point of view of
investors.
Exceptions to the Norm
If a woman works as a stripper, and gets paid, what's
her ROI? Given that she's working on a job that
absolutely needs no capital and she gets some money
then the ROI is infinite right? I would disagree. You
need to take into account her beauty, her boobs size,
her sexiness, and her young age as assets too. We can
think of the value of the assets as how much we're
willing to pay her as a slave. In that case, the ROI
is not really infinite. I think it's not much higher
than typical ROI. You'll see more of it when
discussing ones' worth.
Ones' own business
can be thought of as an investment.
You can buy a product for $10,000 and sell it for
$16,000 and get 60% return within a month for example.
Is it risky? No. many people do it every month.
However, in a sense, it's not really an investment. If
it is, we would have been a billionaire by just
keeping on reinvesting. It's business.
It's investment that we have to work for. In a sense,
the real ROI is not really 60% per month because the business
it self has a market value. Just to let you know that
with some work, you can indeed get 60% return on some
of your money.
However, you got to work on that money rather than
just fire and forget. Hence, it's not an investment.
It's more of a job like that of a stripper.
Savvy businessmen get huge return and do no work. In
that sense, you simply need to recompute the real
value of his business.
So in a sense, that's not investments either because
he can't simply enlarge his earning by infusing more
money. The market value of his business
is so huge. If you take into account the fair market
value of his business
as capital and profit as interest, you can get the ROI
by dividing the profit with the fair market value. In
that case, the ROI will usually drop to the standard
amount again.
And then there are risks that's inherent not in the
investment but in you. For example, investing
offshore tends to be less risky than investing
in your own country. Why? Well, you'll never know when
the next time you bump into some frivolous lawsuits,
or have some religious fanatic committing sweeping
against your shops. The places where you live are the
places you often end up fighting others. We'll talk
about it more when we talk about offshore investing.
Some investing
is quite bad. Putting money in the bank can often
yield so little return that the return is actually
less than the inflation rate. That means you actually
lost money every year. In a sense that's risky too
because you're guaranteed to lose your money every
year. How's that for low risk low yield. However,
people do put their money in the bank for the
liquidity and to balance the risks on other
investments.
Manipulating Yield and Risk
Risk and yield can be manipulated. For the same yield,
investors can get less risk by diversifying his money.
However, the process is cumbersome. Such processes
turn investing into
another business
again. For the same risk, or for a very low risk,
investor can increase yield by leveraging his money
with borrowed money. This is usually done in real
estate industry. Banks realized that land value are
quite stable and hence are usually willing to lend
money to land banking industry than most others.
By FasterFinancialFreedom.com
About The Author:
Jim Thio is a silver medalist in International Physics
Olympiad. He's the author of http://howtolearnmath.com
a book on how to learn math well. He also uses his
Math skills to provide free financial, business,
and marketing advices in http://discussionbucks.com
His articles are featured in
http://FasterFinancialFreedom.com/art.390.0.html
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