I started thinking about my retirement after turning 30. And yes, I was late. Especially when you understand the power of compounding you understand why they say “Time is money”. Anyway, I started researching on financial assets, being a millennial I was not ready to own a ton of physical assets. I did some research on Financial Assets for Capital Appreciation
Example of Financial Assets for Capital Appreciation – common stocks of great businesses, sectorial ETFs or low cost index funds are great financial assets for capital appreciation which would beat inflation too.
When we talk about financial assets we talk about stuff such as stocks, bonds, preferred stocks, debentures, NCDs, etc. In this post, we are tackling the financial asset that is supposed to grow over time and that provides you dividend income. Since this is open-ended in terms of timeline, the answer would be very obvious.
Stocks/equity is the only asset class that will grow in value as long as humans keep on progressing. We will continue growing more stuff than we did yesterday.
If you notice, companies/businesses keep on increasing the price of their service of product to keep up with inflation. And with time businesses become more efficient, so they produce more. As a result, businesses become more valuable.
And companies usually pay a part of their retained earnings as a dividend. In this post, we will explore financial assets for capital appreciation and hopefully, that helps you generate another source of income’
Is real estate a good investment?
But what I said above is not entirely true. You can make investments in real estate properties. Rent those out. The money you would make will be like a dividend. And you can continue increasing your rent to protect yourself against inflation.
There are listed Real Estate Investment Trusts you can buy too. These are like associations with rental properties which pays out 90% of their rental income. The important thing to remember, tenants might move out and rental income can drop for REITs too.
As there is a retail apocalypse, not all REITs are safe. But, you can look for REITs with a moat, mostly which are renting out space to tech firms or data centers etc.
And check the yield those REITs are generating. Do not buy something based on yield alone. Do some research. Seekingalpha.com is a good resource, look up the company there and read analyst reports to find out about the company.
Can REITs be an alternative to Real estate?
I personally do not own REITs those are listed in public markets. Simply because they yield less than privately held REITs. Go to Fundrise, you can start with as little as $500. You can have a supplemental income as I do, that is focused on generating dividend income from real estate debts. It has very little equity for growth too.
Fundrise might give you a better yield than other listed REITs. BTW fundrise charges 1% management fee.
Bonds, debentures, Nonconvertible debentures, t-bills, preferred stocks pay you a fixed coupon rate with no appreciation in value. Face value of bonds go up and down based on the interest rate, but the yield varied based on face value. Since we will talk about equity, I am skipping how to value a bond.
Why not invest in bonds?
Bonds can be a good investment. As long as you remember, it is all about yields. And of course quality. Quality helps you sleep better during a downturn. Knowing your money/ investment is safe. So if you get a bond with good yield, you should absolutely go for it. But, bonds come with a specific timeline. They do not pay you a coupon for eternity. And bonds are not a very good hedge against inflation.
Most importantly, as a retail investor, we should remember, the market is full of sharks. And, it is difficult to find a good bond, where your money would be safe, for a good yield.
Tax free bonds
There are bands out there where the income is tax-free. For example, in the USA you get muni bonds or in India you get infra bonds. The incomes from such bonds are tax-free. But those usually pay you a lower coupon rate. The government does not care that you want a higher yield. But, they definitely care that you pay your taxes. So do not expect any help from anyone including the government. Do your own research and check out the yields first.
Then again, it is not your government’s bond in a local currency, you will have to do research on bond issuers financial condition. This the bond issuer to be a person who needs a credit card loan. Since they have more income stream that a person, the interest rate they pay is lower than what you and I would pay.
And the government can raise taxes and increase their income, so their bonds are considered to be safer. But, bonds are not a good hedge against inflation. When inflation goes up, usually the central banks increase the interest rate. Bond value drops. And when banks drop interest rates, the bond value goes up.
So the price of bond and yield on bonds are vulnerable to inflation. If you are interested to know why the bond value goes up or drops, you will need to learn to value a bond. Which is not that hard actually.
Financial assets for capital appreciation
Coming back to our main topic. Which Financial assets are best for capital appreciation? And does that pay you while you own it? And what is capital appreciation?
what is Capital Appreciation?
This is simple. You buy an asset. This can be your first house. Your first luxury watch. Or financial assets. If you seek capital appreciation, you will try to buy an asset that goes up in price over the years. And hopefully, the growth beats inflation. Beating inflation is important so that you do not lose purchasing power. Any productive and assets with limited supply usually give you capital appreciation.
Why Stocks are the best hedge against inflation and for capital appreciation?
Stocks are part of businesses. A real business that produces products that people want and services. And I am sure you can think of such companies. For example Apple, Google. These companies are always coming out with new products and increasing prices for their existing products and services. This might not be true for technology products, as older technology becomes cheaper.
But otherwise, cars, milk, bread everything goes up in price. As the business produces more, and becomes more efficient, like car manufacturers install robots to boost productivity and cut costs, these companies become more valuable.
As these businesses become more valuable, the initial investment you would have made appreciate. And that is capital appreciation. These companies usually pay out a part of their earnings as a dividend to the investors. If you want to know how to find the best dividend-paying stocks, I have written a post that you can find here.
Your best bet will be an index fund, and preferably SnP500 index fund, as it has 500 best companies in the world and almost 50% of their income comes from outside of the USA. So over the years, your capital will be appreciating as businesses become more efficient and valuable. And while you wait you will continue collecting a 2% dividend yield. If you want to know more about dividend yield, I have made a post, which can be found here.
Examples of Appreciation Assets
Common stocks, ETFs are the best examples. Most debt instruments are not very good at keeping inflation in the long term. There is a concept of real interest rate, that is interest rate – consumer price inflation. So, when a 10 yrs treasury is giving you a 2% yield and if your CPI is 1%, you are earning 1% yield, that is the real interest rate. Real estate investment can go up in value too, but you need to generate regular cash flow if that is just an investment property. But, in general, real estate can beat inflation too.
Example of financial DEBT instruments –
Most of the best instruments are listed. You can find bonds, tax-free bonds, zero-coupon bonds, debentures, nonconvertible debentures, etc. In listed space, it is difficult for a retail investor like myself to find a high yielding debt instrument that is good in quality. So, if you find something unusually high yielding, make sure you first find out the reason. Usually, the market is very efficient, and it is difficult to get lucky in the market.
In conclusion, to grow your capital, buy income-producing assets, so that you can keep up, even beat inflation in the long run. Gold or silver are dead assets, they do not generate any cash flow. Try to buy farmland, an investment property that you can rent out, stocks of great businesses like Coke, sectorial index fund or just low-cost index funds. You want to buy a managed mutual fund, make sure the expense ratio is minimum.
Let me know what kind of appreciating asset you have. I hope it is not a cell phone or a laptop.