Six ways owning the wrong thing makes you poorer

The most common piece of advice in this entire subject is two words long: own assets.

It is good advice, in the sense that nobody has ever become wealthy while owning nothing. It is also close to useless on its own, because it says nothing about which assets, at what price, funded how, held next to what else. This lesson is the other half of the sentence.

Case file

◇ Composite, not a real person

A regional contractor who spent eighteen years buying things

Started with one van and a trade. By year twelve the business was profitable, and every surplus went into acquiring something.

Assets at the peak, marked

about 1.4m

Debt against them

about 1.05m

Cash flow funding all of it

one business

Recovered on the forced sales

roughly 70% of marks

1. 1Bought three vans and a yard on finance, because the work was there and the finance was available.
2. 2Bought two small rental flats in the same town, borrowing against the yard for the deposits.
3. 3Bought a share in a supplier's business from a departing partner, at the price the partner asked.
4. 4Kept every asset, on the principle that selling anything was going backwards.
5. 5Serviced all of it out of the contracting business, which was the only thing producing cash.

A downturn hit construction in the region. Contract revenue fell by about a third for two years. Every one of the assets needed paying for, none of them could be sold quickly at anything near its mark, and the supplier stake could not be sold at all. The yard went first, at a price set by the fact that everyone knew it had to go.

What luck did

The two years of falling revenue happened to coincide with the exact period when three of the loans were on their least flexible terms, which nobody chose and nobody could have scheduled around.

Who else tried this

A great many contractors ran precisely this playbook through a decade without a regional downturn, and finished it comfortably wealthy and entirely convinced the playbook was the reason.

Why it is not a template

Nothing here proves that buying vans, flats or supplier stakes is unwise, only that these particular assets shared one exposure and were funded from one cash flow.

Six separate mistakes are visible in that file, and they are the six ways this goes wrong. None of them is exotic. Each one is a way that owning something makes you poorer than not owning it.

One: the asset costs more to hold than it produces

Negative carry. The yard, the vans and the flats each consumed interest, insurance, maintenance and attention, and between them produced less than they consumed. That is not automatically a mistake — a thing that is going to be worth much more later can be worth funding in the meantime — but it converts an asset into a bet on price, funded by your income, with a clock attached.

The test is arithmetic and takes a minute: what does this produce in a year, and what does it cost me in a year? If the second number is bigger, you are not being paid to own it. You are paying to hold a position.

Two: the debt is fixed and the asset is not

A van loses value on a schedule. The loan against it does not. Three years in, a fleet bought on finance is frequently worth less than the finance, and the gap has to be closed out of income that has nothing to do with vans.

Borrowing to buy something that appreciates is a decision with two sides. Borrowing to buy something that depreciates is a decision with one side, and it is worth knowing which of the two you are making before rather than after.

Three: everything is exposed to the same thing

The contractor owned five categories of asset and had one exposure. The vans served construction. The yard served construction. The flats were let to people whose jobs were in construction, in a town whose economy was construction. The supplier sold to builders.

Five assets, one bet. Diversification is not the number of things you own; it is the number of different reasons they could go wrong. Counting objects instead of causes is a comfortable error because it produces a reassuring number.

Predict

Which pair is more diversified: two rental flats in different countries, or one rental flat and a stake in a business whose customers are elsewhere entirely?

Choose one answer

The two flats — property in two countries shares almost nothingThe flat and the business stakeThey are equivalent — two assets is two assetsNeither is diversified at all with only two holdings

Lock in answer

Four: nothing can be sold on the day it needs selling

Every holding in the file was slow. Property takes months, a yard takes longer, and a minority stake in a private supplier takes a willing buyer who may not exist. The marks were probably honest. The marks were also unavailable.

That is the liquidity curve from the previous lesson, arriving in the form it always arrives in: not as a discount taken calmly, but as a sale conducted by someone whose deadline is public.

Five: the price paid was somebody else's number

The supplier stake was bought at the price the departing partner asked. Not a valuation, not a cross-check against the cash it produced, not a comparison with what building a similar supplier would cost. An asking price, accepted.

A good asset at a bad price is a bad investment, and this is the mistake that feels least like a mistake at the time, because the asset really is good and everybody says so. The claims track gives it a full lesson.

Six: the thing you bought was a job

The vans and the yard did not produce a return on their own. They produced a return when the contractor was working, managing, quoting and chasing. Sold as assets, held as assets, they were in fact the capital equipment of a job — and the wage for that job was never separated out from the return on the capital, so nobody ever knew which of the two was paying.

An asset that requires you is a fine thing to own. It is not a diversifier away from your own labour, which is what it usually gets counted as.

Check

Two assets, both yielding 8% today, both fairly priced. One is let to a single tenant on a ten-year lease; the other is a pool of forty small tenants on one-year terms. Which is likelier to survive a bad decade, on the evidence given?

Choose one answer

The single tenant — the lease is contractual and runs a decadeThe forty tenants — the same shock costs a slice rather than the whole thingNeither — identical yields mean identical riskIt depends only on which tenants are stronger

Check answer

›The version that works, and why it is not a templateOptional

The mirror image of the case file exists and is much less interesting to read.

Somebody buys fewer things, funds them from more than one cash flow, keeps enough liquid that no sale is ever forced, checks the price against the cash before buying, and separates the wage from the return so they can see which is which. Over twenty years this produces an unremarkable, durable, entirely survivable position.

It also produces a smaller number than the contractor had at the peak, and it would have produced a much smaller one if the downturn had never arrived. Concentration and leverage genuinely do build wealth faster when the decade cooperates. The reason to prefer the careful version is not that it wins more often. It is that it is still there in the version of the decade where the other one is not.

Worth remembering

• Owning assets is necessary for wealth and is not sufficient, because assets can consume more than they produce.
• Negative carry means the yearly cost of holding exceeds the yearly production, which converts an asset into a funded bet on price.
• Debt against a depreciating asset is fixed while the asset is not, so the gap must be closed from unrelated income.
• Diversification counts the number of different reasons holdings could fail, not the number of holdings.
• A good asset bought at somebody else's asking price can still be a poor investment.