Asset Type #5: Those that are "stores of value" and will keep pace with inflation but have frictional costs such as storage requirements, maintenance, et cetera thus turning them into liabilities in that they require cash out of your pocket from time to time.
This is where gold, real estate, and Steinway grand pianos fall.
Looking back at charts for thousands of years, on a long-term basis, the best these assets can ever accomplish is to keep a person or family's purchasing power at parity, less the cost of storing and worrying about the assets for all those years.
In other words, these assets classes will *keep* you rich, but they won't *make* you rich unless you deploy large amounts of leverage to amplify the underlying return on equity. In practical terms, that means if we were going to experience extreme inflation, it would be best to utilize leverage by either borrowing to purchase real estate or acquiring gold futures (which has its own drawbacks - it's almost always better to take delivery of the underlying gold despite the transportation and storage costs if you really think the world is falling apart so you don't need to worry about counter-party risk).
This is why you see a lot of wealthy families engage in something known as "equity stripping" (there are some asset protection reasons for doing it but the economic returns are far more important, in my opinion). Let's say you owned a house for $1,000,000 in Southern California. If you had no mortgage and the property appreciated at 5%, in 30 years, it would have a value of $4,320,000. Now, obviously, you've been out the frictional costs - homeowners insurance, heating, water, etc., for all of that time but you also had the utility of living in the property. Your returns with no mortgage would be unspectacular. You would have actually lost purchasing power after adjusting for the related costs on an inflation-adjusted basis despite having a "profit" of $3,320,000. Remember this - ALL THAT MATTERS IS THE NUMBER OF HAMBURGERS, OR PIANOS, OR PENS, OR CUPS OF COFFEE, OR WHATEVER IT IS YOU CARE ABOUT THAT YOU CAN BUY. WEALTH MUST BE MEASURED IN RELATIVE PURCHASING POWER - NOT MERELY DOLLARS OR ASSET LEVELS. IT'S ALL ABOUT PURCHASING POWER. NEVER FORGET THIS. Yes, I put that in all caps. If you learn nothing else from the millions of words that I've written over the years, I'll have done my job.
If, on the other hand, the family had put down $250,000 and borrowed $750,000 to buy the property that gain of $3,320,000 would be against an initial $250,000 equity investment. Their return on original equity before mortgage costs would be 14.47%, beating stocks. They would obviously have enormous mortgage interest expenses, which should be offset in the calculation by the lower taxes they paid during that time period, so it's actually unlikely that the real estate would have beat the stock market. For most families it doesn't matter because the leveraged real estate lets them generate real wealth, built up in the form of home equity, while having the utility of living in the property. Even if stocks or private businesses would have generated higher returns, you can't live in them.
There are often "special situations" in real estate that are not included here and can be highly attractive to an investor looking to build wealth at exponential rates of return over several years. Those that have the understanding and experience to purchase real estate options, for instance, and can turn around and sell the property are effectively managing a "business" with qualities more akin to Asset Type #1 or #2, depending upon their methods and circumstances. The fact that the underlying asset consists of tangible land or buildings is inconsequential (as a corollary - cattle is a low return business as is real estate but McDonald's combined the two into a system based on a franchising model that generated unbelievably high returns on equity for the shareholders over the course of decades).
The same is often true in regards to gold, only there is much higher risk utilizing leverage because the commodity markets are far more speculative than the equity and bond markets. A relatively small drop that wouldn't have hurt you in stocks could wipe you out due to the margin maintenance calls at most commodity brokers. This would be acceptable if gold had utility to the average person like a house does. It simply doesn't, unless you are an industrial manufacturer who happens to need the reserves for your core business and are willing to make bets on the direction of prices.
Thus, the man who wants to invest without worrying about losing everything is left to buy bullion outright for cash. The implication is that unless he experiences one of the few, relatively rare booms in the gold prices (a la the 1980's), he can never going to grow your wealth higher than inflation on a long-term basis. (There is also another rare situation in which gold can be a highly attractive investment and that occurs when the price of above-ground inventories falls below the production costs of extracting it from the ground. At some point, the supply / demand relationship must reach equilibrium. For those who have the resources to take advantage of the situation, and the intelligence to know that it can be a few years before that happens so they avoid getting wiped out in subsequent price fluctuations, it can be - if you'll pardon the expression - a gold mine.
For long-term holding, however, gold doesn't budge in real terms (the last time I checked the inflation-adjusted rate was $1.00 versus $1.01 - a 1% return in real terms for two hundred years). Again, real terms - that is, inflation adjusted - is all that matters. Purchasing power. No matter how you measure it - dollars, clam shells, shark teeth - all that counts is how much purchasing power you gained relative to your investment.
