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Money Question: What Would you do with a Windfall? Part 4

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Money QuestionsThis is the final part of this Money Question series. If you missed it, catch part 1, part 2, and part 3. I asked several bloggers the following question:

Where is the single best place to invest a $50K after-tax windfall now? Assume the following: you don't need the money for at least 10 years, you've already max out 401k and Roth IRAs. Pretend that the windfall came under a couple conditions... 1) You can only invest it in one area. 2) If your investment doesn't make 6% a year you lose it all.

I had a purpose with the stipulations. I was hoping to coerce the bloggers into coming up with a typical investment that might be a bargain right now. In my opinion many investments are currently getting too "expensive" for their prices. I have no interest in many stocks and sectors as they are near the top of the market. Gold has had a huge run-up over the last few years. The dollar seems to be getting weaker every day. Median home prices in my area are 870K. That eliminates any real estate investment for me, because I already do the long distance landlord thing and I'd probably get out of that game if it wouldn't cost me thousands of dollars. Commodity prices seem to be soaring by all accounts.

I had been teasing with the answer that I would give. I'd be tempted to invest with Prosper basically because there seems to be a lot of demand from overextended Americans. I've also done much better when I've reviewed my strategy over the last 6 months. However, I'm not quite that confident to put 50K to work in Prosper. When I originally planned the question, Pharmaceutical HOLDRS (symbol: PPH), was looking like a bargain. It's had a run-up in the last couple of months, and it's now looking expensive like many other companies. I then looked at Vanguard's Healthcare ETF (symbol:VHT) and that looks more promising to me. It's still up around 19.5% this year, so it doesn't fit my bargain hunting criteria. They say the third try is the charm. I found Biotech Holders (Biotech HOLDRS:BBH). It's up only around 2% this year, so there's reason to believe that there's to grow. Over the last three years it's up 23% compared to the S&P500's 42%. The clincher was it's holdings - Amgen, Genzyme, I think these companies, and the sector in general, is well positioned for the next ten years.

Last updated on June 16, 2007.

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8 Responses to “Money Question: What Would you do with a Windfall? Part 4”

  1. broknowrchlatr says:

    Interesting analysis. So does this mean you are going to buy in to BBH now?

    Maybe I am missing something, but are you arguing that there is room to grow simply because it has not gotten returns as good as many other funds this year? I don’t know much [read: anything] about healthcare but I would guess that it is not getting great returns because of profits and expectations being low.

    Genetech is its biggest holding at a whopping 41%. Its quite a speculative play (in my mind… granted, I am very conservative). Then again, it might do ok the next few days if the current profit taking continues.

    If you’re fairly conservative elsewhere, go for it. Just don’t put too much in there.

  2. Lazy Man says:

    Sure I’ll buy BBH if you want to be my benefactor and give me $50,000 :-). The whole goal of the exercise was to do something speculative, not conservative.

    I’m far from an expert on health care, though I used to follow it better than I do now. However, remember that this is a 10-year bet. When I look at advances made in genetics such as mapping the human genome, I excited by the possibilities. Technology advancement seems to be exponential as well, so I’m thinking that you’ve got a combination of great growth and value. It might not be the biggest value, but when you look at sectors that aren’t up huge over the last year, they consist largely of home builders and… home builders – or at least that’s what I found.

  3. Steve Austin says:

    I think I was snookered by this exercise. 6% each year every year for 10 years seems to require something conservative enough not to wildly swing from year to year, even if the geometric mean ROI is 6% annually. Speculative operations tend to be more volatile from period to period.

  4. Lazy Man says:

    I should have clarified that it just needs to average 6% compounded at the end of the 10 years. I wanted to avoid someone saying that they’d put it in a high-interest savings account.

  5. Steve Austin says:

    So the actual constraint is that the money starting today has to grow 79% 10 years from now (that’s 6% compounded). With $50k that means ~$90k in June 2017, all nominal dollars, no concern for inflation.

    In that case, I’d locate some high dividend-yielding undervalued individual stocks. I’d aim for the dividends to account (on the average) for at least 4% of the annual gain and capital gains the other 2+%.

    That still leaves me with one question about the rules of the game: when stocks yield cash dividends, must that cash be reinvested in that stock, or can it be held in cash (T-bills) for the remainder of the 10 years? I think this is a non-trivial point, as a stock yielding 4% annually on $50k original money will have kicked off $20k over 10 years, which is a good 22% of the final $90k required not to Lose It All. Keeping the dividends in cash can be a cushion against an unfortunate market downturn near the end of the 10 year period.

  6. Steve Austin says:

    And at current T-bill rates, that $20k in dividends will have earned another $5k in interest to the account at the end of the 10 year period. Leaves the original stock shares need to return about 2.7% annually. If the companies picked are out of favor now and don’t go out of business, earnings growth and inflation should take care of 2.7% no problem.

  7. Lazy Man says:

    Remember, my vague you can only invest in one area. If you want to invest in stocks, give me one specific ticker symbol. If it produces dividends, you should have to stick to cash. However, I could see letting you just leaving it in a brokerage account where such money is swept into a high-yield interest account. I could possibly allow that loophole because you are really putting the money, they are. I’d have to think about it.

    The goal of this exercise was also to be very specific. I didn’t go into all the rules for each type of investment in the question for brevity and because I didn’t want to limit answers to things mentioned in those rules. For instance, if I start giving the rules for stocks, people focus on that investment vehicle. I wanted to leave it open for people to think outside the box.

  8. Steve Austin says:

    Okay then, put me down for $50k of MO at today’s approx. price of $70.50. Roll all cash dividends into 182-day T-bills, and continue to roll those over into newer T-bills when they mature. Also assume that I’m not forced to sell any companies spun off from MO over the next 10 years. I.e. when the int’l operations are spun-off, I get to keep those shares in my account and they still count, collectively, as my single 10-year investment.

    (I bought 119 sh of MO back on 10-Jun-1997, almost exactly 10 years ago this week. That was serendipitous enough that I went back to calculate my ROI. I didn’t reinvest any of my divs into more shares, just took the cash and stuffed it in a high-yielding MMA. MO’s share price return is over 120% (that’s over 8% annually, just in capital gains), and that is during a period of intense litigation. I’m including KFT, of course, which as you know was spun off recently. Add in MO’s 4-6% mean dividend yield over the period, and you can see that MO did better than 12% annually on average. Would I do it again under some other adverse conditions, such as high market valuations, hairy macroeconomic outlook? You bet I would.)

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