Over the years, people have frequently asked me this question. I have also heard them tell me a lot of reasons that they should not — too much risk, it is rigged, not enough money, they have lost in the past, or my favorites: they are scared of the economy, climate, the President or some foreign power. Interestingly, those last four fears change over the years. It was not always the same President, same foreign power or even the same climate issue that had would-be investors in a debilitating panic.

So, let me tell you now why you should invest. First, let’s start with a basic concept: “The value of an investment is what it pays you.” This is the first thing they teach you in finance class. It is a pretty simple concept really; any investment can be valued based on how much income it pays its owner. For instance, a commercial property might be worth 10 times its annual rent. Therefore, a strip mall with annual rental income of $200,000 per year is worth $2,000,000. The 10 multiplier is called the Gross Rental Multiplier and it varies over time and by area. Obviously, there are other factors. As any Realtor will tell you, location is so important that they mention it thrice.
Other assets can be valued the same way. Suppose you owned a pizzeria and you wanted to sell it. You would want to know how much your business is worth. Once again, you would use a multiplier. For argument, let’s just say that you sell $1,000,000 worth of pizza and pasta. If we assume the multiplier is two-times revenue, your pizzeria is worth $2,000,000 plus the value of the fixtures. A second way to value would be to multiply the actual earnings. Any business can be valued this way, from a pizzeria or a dry cleaner to a major corporation like Microsoft or Apple.

Both Microsoft and Apple pay a dividend. Many of the big-name corporations you have heard of pay a cash dividend to every shareholder. United States companies usually pay that dividend quarterly. So, if you owned 100 shares of Microsoft, then last quarter they would have sent you a check for $42. Now that might sound like a small amount of money, but there is a trick. The amount of money you get every quarter tends to go up over time. Ten years ago, the same shares would have paid you only $11. It is this growth in income that makes stocks so attractive. Stocks go up in value because they represent ownership in an underlying business with growing revenues and earnings. We often value those stocks based on an earnings multiplier called the price/earnings ratio. But, in the end, it is not the earnings growth we want as much as the potential increase in dividends that those larger earnings will afford. Remember, “the value of an investment is what it pays you.”
Obviously, growing revenues and earnings is not a guarantee that a company’s price will increase, particularly in the short term. The price-earnings multiplier changes the more or less enthusiastic investors become about the market as a whole or about the prospects of a particular company.  

Scott A. Grant is President of Standfast Asset Management in Ponte Vedra Beach. He welcomes your comments or questions at scottg@standfastic.com.