Liquidity & Other Investment Risks

Which investment is better?

① 10% per year returns + Complete liquidity (being able to convert the investment into cash)

② 12% per year returns + No liquidity for 3+ years

🕵️‍♀️ I was helping a friend, who is also a Xillion customer, solve some of their financial puzzles when this came up. They were being pitched an investment idea where their funds would be locked for years in return for slightly better returns.

🙋‍♂️ My suggestion: ① is a much better deal, assuming the same level of risk for both. Here’s why. 👇

💸 An illiquid asset should give twice as much return as a fully liquid asset such as the S&P 500 index fund (SPY) to be worth investing into.

💲 S&P 500 index long term returns are around 10%. And it is as liquid as cash because you can convert it to cash within hours, with 2-3 taps on your phone.

🏡 The popular illiquid asset most Americans own is a house. Most people buy houses with 80% loan. Real estate in the US appreciates around 4% per year, which is around 20% when you consider:

Purchase Price: $500,000 Down Payment: $100,000 (20%) Bank Loan: $400,000 (80%) 1-Yr Price Appreciation: $20,000 (around 4% of the total value of the house) Your Gain: 20% ($20,000 gain on a $100,000 investment)

🏡 Selling a house takes months and requires on average around 100 hours time investment. And you don’t see the money for 3-6 months after you make a decision to sell it.

🏦 A less popular type of illiquid asset is venture capital that also returns around 20% returns over the long term. But your money is usually locked for 7+ years, quite possibly even longer. 🕘

🔑 So, next time someone pitches an investing opportunity to you with returns higher than S&P 500 index, ask them about liquidity. If it’s months or years, ask 20% returns, that is, twice the return of S&P 500.

🚀 And here’s a handy chart for you to keep in your back pocket or as your phone background! 🚀