“The business of investing is not the same as investing in a business.”
– The Maxims of Wall Street, Page 155
Investors are often confronted with two choices: invest in private businesses through partnerships or invest in the stock market. Which is better?
Joining an Investment Club
Years ago, I became a member of an investment club that invested in specific businesses – gyms and other franchises, oil and gas partnerships, condo developments, loan operations, and other ventures, both here and abroad.
The president of the club assured us that investing directly in businesses was far more lucrative than investing in the stock market. He had lots of experience running businesses and said he could make us a ton of money.
At first, the businesses were quite successful, and members were happy receiving large checks at the annual club meeting.
Then, suddenly, the checks were delayed or stopped coming. There was no fraud involved, just unexpected financial troubles.
For example, revenues from gyms dried up when the government closed gyms down during the 2020 pandemic and they never reopened.
Foreign partners turned out to be less than reliable and wanted to postpone distributions to members. Sometimes, the foreign governments also interfered with their operations and acted against the interests of foreigners (Americans).
The point is that, despite the best intentions of club leaders, investing directly in businesses turned out to be far riskier than investing in stocks.
The Risk of Private Oil and Gas Partnerships
Another example is investing in certain private partnerships with oil and gas outfits. You put up, say, $50,000 in a private oil and gas deal. The general partner drills holes in areas that have had good results in the past, and you hope you hit a gusher. While you wait, you get tax credits, deductions, and depreciation. If it all works out, you make a lot of money… eventually.
The risk is that the oil and gas holes underperform or end up dry – or the energy firm goes out of business and you lose money. It happens a lot.
Pitfalls of Income-Producing Rental Properties
Many books and conferences offer the opportunity to make a fortune in real estate by shrewdly investing in rental properties (single-family homes, condos, apartments, or commercial buildings). Investors are enticed by such well-known titles, including Nothing Down, Building Wealth One House at a Time, How I Turned $1,000 Into a Million in Real Estate in My Spare Time, and Rich Dad, Poor Dad.
When you invest in a rental property, you have the potential for positive cash flow, asset appreciation, and tax benefits.
But there’s a lot of risk. You have to come up with the down payment and closing costs, budget for repairs, pay taxes, and deal with lousy renters, among other issues. Personally, I’ve owned a lot of rental properties, and making money is easier said than done.
As Humphrey Neill put it, “It is often a long road to quick profits” (quoted in Maxims, Page 53).
Why the Stock Market May Be a Better Deal
In many ways, the stock market is a better deal all around. You can invest any amount, your funds are always liquid, taxes are often deferred, and earning a profit is a very real possibility – without the hassle of dealing directly with business managers.
Instead of investing in private businesses, why not invest in public companies that have already proven their success and trade on a stock exchange – or diversify into dozens of successful businesses through mutual funds or ETFs, many of which pay generous and rising dividends?
These days, you can even invest in pre-IPO private companies through publicly traded ETFs or investment firms. This is a great way to turn an illiquid investment into a liquid one.
Take, for example, Main Street Capital (NYSE: MAIN). The Houston-based management firm is a business development company that invests in over 100 private companies with a less than 1% default rate. It pays regular monthly dividends and quarterly supplemental dividends and has beaten the market over the long term. I’ve owned it since 2012.
In energy, you can invest in publicly traded oil and gas partnerships and corporations that pay rising dividends every quarter. They often perform just as well as private drillers without the high risk of a dry hole.
In real estate, you can invest in real estate investment trusts that pay out regular distributions and increase in value – without worrying about negative cash flow, taxes, depreciation, or landlord problems.
In sum, you may be tempted to invest in potentially high-return private businesses, but it would be wise to keep most of your money in liquid, profitable companies that trade daily on the major exchanges – all at your fingertips with a click on your computer.
Dick Davis said it best, as quoted on Page 57 of Maxims: “There are few things in investing that are more important than preservation of capital.”
Good investing, AEIOU,
Dr. Mark Skousen
P.S. Last call for the “Greatest Libertarian Show on Earth” and “The World’s Fair of Liberty.” Celebrate the 250th birthday of America in style at FreedomFest and meet celebrities Kelsey Grammer (“Frasier”), Steve Forbes, Sen. Rand Paul, Kennedy (Fox News), John Mackey (the former CEO of Whole Foods Market), Nick Shirley, and Marc Lichtenfeld, among 200 other speakers. Meet them all (there’s no green room).
We just posted our full lineup and schedule at www.freedomfest.com. You can see my personal schedule here. We’ve also extended our hotel block. Use code “OXFORD100” to get $100 off (new attendees only), and sign up here.
There’s something for everyone at FreedomFest. Steve Forbes said it best: “FreedomFest is so good I changed my schedule to attend all four days.”
I’ve also just been added to a spectacular Alaskan cruise from Vancouver to Seward that runs from July 24 through August 1. Join Steve Forbes, Rich Karlgaard, and others. Details here.