This is a story about the million-dollar car we bought for a son to drive to school. Actually, it’s now more like $2 million.
The car in question was a 1988 Mercedes 300CE. In 1988, brand new, it was the top-of-the-line Merc available in Australia, priced at a fraction under $130,000. Add a couple of options, on-road costs and a little journalistic licence to round up the figures for the purpose of this story – let’s call it $140,000 and keep the change.
That was a lot of money in 1988. It is still is. It also happens to be just $1000 less than median Sydney price for houses in the same year.
Ten years later, that Sydney median was nearly $249,000. By 2008, when we bought the Merc, the median was $542,000. We paid $8000, all up, for the 20-year-old car.
I guess you can see where I’m going with this. The median Sydney house is now worth $1.1 million.
But the “median” price is only part of the story. If you had bought a little wiser than average and put about as much into renovations as a Mercedes costs to service for 30 years, plenty of those kinds of houses bought for $140,000 in 1988 are now worth $2 million – or more.
A quick check of the classifieds shows 1988-89 300CEs are still about the $8K level. Therein lies the lesson of depreciating assets and opportunity cost.
It’s not just Sydney house prices that tell the story. If you bought $140,000 worth of the Australian stock market in 1988 (through, say, an index fund), it was worth $1.91 million 30 years later, according to Vanguard.
(OK, the Vanguard figure is cheating a bit as it assumes reinvesting all dividends and doesn’t allow for tax and brokerage. But you know what I mean.)
Hence our son’s $2 million car – a fine example of the real cost of depreciating assets and ‘opportunity cost’.
When we buy something, everyone but the occasional miserable economist or finance journalist sees only the immediate price tag. Even then, we’re encouraged not to see it clearly.
How often do you hear someone say they bought something for $199 that had been reduced from $399, so they had “saved” $200? No, most times they had spent $199 and hadn’t saved anything.
The opportunity cost is what else could be done with the money. The big opportunity cost of buying the new 1988 Mercedes 300CE – a depreciating asset – was the alternative use of the cash to buy appreciating assets. After 20 years, the Merc wasn’t worth much, while the appreciating assets of Sydney housing and shares were worth vastly more.
It’s owning appreciating assets that generally makes the difference between people who are wealthy and those who are not. A highly-paid job is nice, but if the pay isn’t used to acquire appreciating assets, odds are the person with the high wage won’t stay wealthy.
You hear that often enough about poorly-advised sports stars and lottery winners – they splurge a big income, buy flash cars and boats and travel first class, and end up having little to show for it.
If someone already has a whole pile of appreciating assets, or simply more money than they know what to do with, good luck to them splashing out on a particularly expensive car. (It makes it possible for canny souls to pick up that car relatively cheaply some years later second-hand.)
Thought it sometimes amazes me to walk past a rather humble home and see a flash set of wheels in the front yard, or hear of someone who owns no property but drives a vehicle that cost six figures.
There are other big-picture factors at work that exacerbate the importance of owning appreciating assets.
A key outcome of cheap money – our era of low interest rates – is that it encourages people to borrow to buy stuff.
Many people buy appreciating assets, pushing up their price, making those who own them richer. The scale of investment and speculation in such assets is feeding into greater wealth inequality.
Fund manager Mike Mangan spends a fair bit of time worrying about global debt, that money being so cheap has encouraged too much borrowing. He wrote recently about the way the US central bank hoped cheap money would encourage a “trickle down” wealth effect:
“In theory, the ‘wealth effect’ is supposed to ‘trickle down’ to everyone in the community via more jobs and higher wages etc. In practice, rapid technological change and globalisation has limited that ‘trickle down’ in the Western world. In the West, the ‘wealth effect’ certainly flowed to owners of capital via higher dividends and share buybacks. So the primary beneficiaries of the ‘wealth effect’ in the west became those who already owned assets.
“By definition, if you don’t own assets you’re not going to benefit from rising asset values. In this way, inequality has become baked into our economic system. And the longer the ‘wealth effect’ remains official policy, the more acute inequality becomes.”
Back to the Mercedes; indulge me while I explain a couple of things. I’m not recommending people necessarily buy 20-year-old luxury cars. For a start, there are big maintenance costs with “prestige” cars to avoid the reliability problems that can come with a couple of decades.
Personally, I love Alfa Romeos – it’s an indulgence that I can now afford. I know the opportunity cost but I’m fortunate enough to be able to wear it.
Just to provide the exception to make the rule, the biggest car mistake I made was selling a 1975 105 series GTV 2000 that I bought for $14,000, and sold after a few wonderful years for the same amount. Now, not that many years later, reasonable examples sell for about $40,000.
We’ve always helped our sons with their first car. For the Merc at the time, it was a solid, relatively safe car in its price range, not fast enough to get someone into trouble. There was another purpose in that it had a tow bar and our other family cars did not.
Advances in technology mean there are smaller, relatively inexpensive cars with as-good-as or better safety ratings than the older luxury models that offered superior safety when they were new. Floating around on the internet is a video crash test comparison of the “safe” old boxy Volvo and a new small car. The new car won hands down.
Cars – with rare exceptions like my lamented GTV – are depreciating assets. They start losing money as soon as you buy them, especially when they’re new. The opportunity cost of an expensive model can be huge.
Yet most of us need them for transport and some of us love the things for the freedom they provide, for the kinetic pleasure of driving and, in the case of Alfas, for their soul and beauty. We just have to remember they are an expense, not an investment.
Be wary of spending too much on depreciating assets and always consider the opportunity cost – but if you hear of a good 105 series GTV …