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Example:
It is 1889 and you have come into a nice
inheritance from your great aunt. You consider
traveling to Paris and looking into the
art scene - which you have heard is quite
interesting. Your trip would cost $400 and
you would have $100 to buy a painting. Somebody
mentions there is a colorful painting of
irises by an obscure, apparently mentally
unstable artist who lives in Arles. Or you
could stay home and invest your $500 in
the booming market in railroad stocks.
Like any investor you wish you could see
the future. If you could, you would know
that the painting would be acquired for
$80,000 in 1947 by the heiress Joan Whitney
Payson and that forty years later her son,
John Whitney Payson, would sell it to a
private collector for $53.9 million, the
highest price paid for a work of art at
that time. (Although the private deal fell
through, Van Gogh's "Irises" was
acquired a couple years later for an estimated
$60 million by the Getty Museum in Los Angeles.)
Or, looking into the future, you would
know that the stock market has returned
an annualized rate of 12.3% in dividends
and appreciation over the last 100 years.
You could engage in scripophily (skri-POF-uh-lee)
- the collecting of historic stock and bond
certificates.
Which would have been the better financial
strategy? What other factors might affect
your choice? How do you know if you've make
the right choice?
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Answer:
It's financially a toss-up, depending on your
time perspective. The return on the stock is better
58 years out (selling in 1947), though the painting
is somewhat better 98 years out (selling in 1987):
Stock
FV = PV*(1 + i)n FV
1947 FV = 500*(1+.123)58 $417,826
1987 FV = 500*(1+.123)98 $43,269,923
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Painting
1947 FV = 500*(1+..091446)58 $80,002
1987 FV = 500*(1+.12553)98 $53,946,513
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Notice that the return on the painting was about
9.15% as of 1947. And that the painting's return
was about 12.6% as of 1987. Also notice how small
differences in rates of return (interest) affect
the results. You might want to play with the attached
spreadsheet to see how different interest
rates affect the outcomes.
Which is the better investment? Even if sold
the painting in 1947, you would have 58 years
of aesthetic pleasure. Would it have been worth
the $337,000 difference between the stock value
in 1947 and the painting's value?
Further, even if you held the painting for 98
years and considered it to be a better value,
remember that its return may have been the highest
of any piece of art. That is, its 12.6% return
is extraordinary. The long-term 12.3% return on
stocks is, in fact, the average.
But imagine the thrill of owning a Van Gogh.
A stock certificate, though charming, is hardly
art. Or is it? |
1.1.2 Computing Present and Future Values
