March 30, 2015

Where Do Millionaires Invest Their Cash to Keep It Safe?

I’ve been having a conversion about investing and money with the reader “Frat Man” in the comments section of another post.  He asked:

I also had one other question I have always wondered. Where do millionaires keep their money? In the sense that FDIC insurance only covers $250,000 at the bank and SIPC only covers $500,000 at the brokerage. I mean, I can’t see Bill Gates putting $250,000 at thousands of banks across the country, nor can I imagine Lou Simpson’s net worth getting wiped down to half a million because of a bankrupt Scottrade. Ha! So when people accumulate millions, what becomes the “safe spot” to keep it?

MonopolyWhen I went to hit “reply” in the comments section, I realized that it was nearly 1,500 words so I thought it might be better to just post it as its own in the event some of you were interested in where billionaires and millionaires like Bill Gates or Lou Simpson invest their cash.  It really has nothing to do with beginners, otherwise I could have gotten an article out of it, but it might still interest those of you who are curious about these sorts of things.

Here is my answer …

Where Do Millionaires Park Their Cash?

First, you have to realize that “money” in one sense doesn’t exist. It is an idea. If you are talking about the green pieces of paper the Treasury department prints, there is only about $575 billion in circulation yet household assets in the United States are valued at more than $50 trillion.

Where do millionaires invest their cash?Think about that. If you owned every single United States dollar bill in the entire world, you would only have 1/100th of the estimated household net worth in the United States. The reason: Those greenbacks are merely an exchange mechanism. They represent something that people can trade to signify a claim check on society. In and of themselves they have no value. We could have just as easily chosen sea shells or jars of strawberry jam. The reason societies have preferred gold and silver over time is they are difficult to mine, so it is very hard for governments, politicians, kings and presidents to make the currency worthless by printing more paper.

The result is that most wealth isn’t held in the form of cash.  In fact, I think of money as being held in seven distinct forms (there are more but these are the major ones):

  1. Business ownership (stocks).  If you own a chain of dry cleaners that makes $1 million a year in profit, you could probably sell the company for between $10 million and $15 million.  You don’t have that money “sitting” anywhere, but it is yours nonetheless.
  2. Money they have loaned and must be repaid to them in the future such as bonds, certificates of deposit, money parked in bank accounts, and money invested in money market funds,
  3. Real estate, such as hotels, apartments, stadiums, homes, storage units, bridges, etc.
  4. Commodities such as gold, silver, platinum, corn, cattle, mineral rights, oil, natural gas, sugar, coffee, etc.
  5. Nominal currencies, such as United States dollars, Euros, Yen, and British Pound Sterling stuffed in envelopes or briefcases.
  6. Intellectual property, such as ownership rights to famous songs, books, movies, and photographs. If you owned the rights to Star Wars, you could have no money in the bank but the truth is, you are probably a billionaire because you could sell those rights to a lot of interested investors; they, in turn, could create new merchandise and products and make money from it, which is why they are willing to pay you. Brand names are a huge source of intellectual property value, such as Coca-Cola, Clorox, Wrigley, Hershey’s, and Folgers.
  7. Tangible property, such as famous paintings, historical artifacts, rare books, etc. If you owned an original, signed copy of the Declaration of Independence, you could convert it into any other form of wealth you wanted, such as nominal currency, which you could then use to transfer your wealth into real estate, or commodities, or any of the other categories.

That means that most of the time, someone with substantial net worth doesn’t need to park their money in a checking account. You couldn’t steal Bill Gates’ $50+ billion from him because it isn’t money in a briefcase; it is office buildings, shares of stock, railroads, book copyrights, personal real estate, private jets, rare art … the list is endless.

Don’t Think of “Money” As Being Cash

This may help explain the perspective of an investor…

It is estimated that there are 1,348,528,420,000 barrels of oil in the ground that have a 90% or greater probability of being drilled and recovered by humans (called “proven reserves”). The current spot price of crude oil is roughly $73. That means that all of the oil in the ground is worth an estimated $98,442,574,660,000. Let’s round up and call it $100 trillion.

(For now, let’s ignore the obvious fact that if this oil was harvested at once, oil would be worth about 50 cents a barrel because the supply would grossly exceed the demand. At current consumption rates, that is enough oil to meet world demand for 54 years. )

That means if you were to suddenly inherit 100,000 barrels of oil, you would be worth $7,300,000 at today’s market prices (100,000 barrels x $73 per barrel = $7.3 million).

If oil rose to $100 per barrel, your assets would rise to $10,000,000. You are now worth an extra $2.7 million! Where did it come from and where is it parked? Nowhere. It is the estimated liquidation value of your oil if you choose to sell right now and the market has enough demand to fill your order without the price falling. You are quoting the value in dollars because, as a United States citizen, those dollars mean something to you. You inherently understand the value of $5 and what it will buy you compared to $20.

Gold bars

You can actually quote assets in any exchange mechanism you prefer. One of the best techniques professional investors use is to measure the Dow Jones Industrial Average in gold because it gives you a better idea over long periods of time of the real inflation-adjusted purchasing power of the market. You may think of your house as costing, say, $500,000 but you could just as easily say your house is 6,850 barrels of oil ($500,000 divided by $73 per barrel). You have to start thinking about value and learn to adjust for the fact that United States dollar, as any other measure, is nothing more than a proxy.

If the United States government began to print money so it became worthless, and a loaf of bread that originally cost $5 is now $10,000, your oil may be trading at $146,000 per barrel even though you have gained nothing in purchasing power, giving you an asset value of $14.6 billion. The thing is, your purchasing power would be the same because:

  • $14,600,000,000 would buy 1,460,000 loaves of bread if each loaf was $10,000 just like
  • $7,300,000 would buy 1,460,000 loaves of bread if each loaf was $5

That means that, measured in bread as an exchange, the government printing money didn’t have an influence on your actual purchasing power. You can still buy the same loaves of bread as you could before hyper-inflation. This is one of the reasons famous investor Warren Buffett talks about the importance of measuring gains in your net worth in “how many cheeseburgers you can buy”.  Purchasing power counts.  Not dollars.

What Do The Rich Do With Their Cash?

If you are specifically interested in what the rich do with their short-term cash, comparable to the middle class putting money in a checking or savings account, there are several popular alternatives to those with at least a few million dollars:

  • Establishing a so-called zero-balance account. The rich investor has his or her money in bonds, certificates of deposit, commercial paper and other highly liquid debt instruments. They write checks out of the account, which has $0 in it, and at the end of the business day, the private bank sells off enough of the highly stable, liquid investments to wipe out the negative balance in the account, bringing it back to $0. That way, if the bank fails, it doesn’t hurt the investor because the underlying assets are held in his or her name, not the name of the institution. (This service is known as custody or, in some cases, global custody. The banks will charge a small fee for it as a percentage of assets in most cases.) Almost every intelligent rich person on the planet uses some form of global custody because you don’t want to worry about losing your shirt because a broker failed.
  • Parking the money directly with the United States Treasury in an account backed by the taxing power of the United States government. They can buy short-term Treasury bills and keep rolling them over until they need the money. Unless the United States goes bankrupt by hyper-inflating, they are safe.  Buffett literally has tens of billions of dollars of Berkshire Hathaway’s money parked in Treasury bills, bonds and notes at times.  There is no risk of default or bankruptcy unless the entire nation goes bust!
  • Physically holding cash in multiple currencies in safe deposit boxes throughout the world. These aren’t insured, though, so there is that risk.

I hope that helps you understand how a lot of private banks such as Northern Trust think about parking money for millionaires and other rich investors.

  • chapmang

    Hey Joshua,

    I just want to commend you on this blog as it is one of the best blogs I have read thus far, but I do have one question. I haven’t once seen you mention Carlos Slim. I have read articles about him and interviews of his and he seems to me to be a financial genius. What are your thoughts on Slim and his investment ideas and practices? What are your thoughts on Slim as an individual as well? I’m not an investor but I am just interested in understanding money so that it is not an issue for me like it is for so many others. This blog and your articles have revolutionized my understanding of money and wealth so I just wanted to thank you!


    • Joshua Kennon

      Chapmang, I’m glad you find them useful and appreciate your kind words.

      There is no doubt that Carlos Slim is a very intelligent man and he understands money. I would probably agree with your assessment that he is a financial genius and what he is built is very admirable. I think there is a lot about entrepreneurship and intelligent risk-taking people can learn from him. He is a living example of how someone can take a single asset and use it to fund intelligent investments in a wide range of industries, letting compounding do the heavy lifting over decades.

      My thoughts on Carlos Slim as an individual? Honestly, I don’t know enough about him to have an opinion because I judge people not just on their acumen in business but how they act both in public and private. Do they treat people with respect? Do they have integrity and keep their word, even in small things? Are they compassionate and understanding? You can still be ruthless in business and possess all of these traits. I have volumes of books about dozens, if not hundreds of people in my library but there just isn’t a lot written about Slim since he arrived on the world stage only a few years ago. I’d certainly like to learn more, though, because anytime someone builds something of value like he has – not just the money but accomplishes something – it fills me with incredible joy. I love watching people build things, whether they are creating empires or sculpting art.

      I will say, though, that Carlos Slim recently bought one of my favorite properties in the world, the Duke Semans mansion, so the man has taste! I adore that building.

      On a side note, I do think that he faces a challenge in how the public perceives him in the United States because he has an effective 90% monopoly on the telecommunications industry in Mexico, where per capita income is only $14,000 or $15,000 annually. You have to realize, though, that Americans eschew monopolies and have since the trust busting days of President Teddy Roosevelt; remember how much Bill Gates was disliked during the height of Microsoft simply due to the size of his market share? Even if they love your product, this is something that is woven into the cultural fabric of the country. People adore Buffett because he is perceived as having built Berkshire Hathaway from the same town in the middle of cornfields by being honest and investing wisely. If Buffett had acquired 90% control of the insurance industry, I’m not sure many Americans would like him. It’s woven into the DNA, left over from the muckraking days of anti-Standard Oil sentiment. (Personally, I adored Standard Oil. But that’s just me.)

      • Eliyahu_ben_Yehoshua7

        You are so intelligent and your articles are on point. I am guessing that you may not be so enthused about the Rothschild family dynasty. They in my opinion are the smartest business family to walk earth, just my opinion.

  • Zen*

    Great article 

    • Dr. Michael McCain

      I agree, very well written.

  • MmmCashews

    This was totally fascinating and I’ve been wondering this for years. Thanks.

  • Fb1958

    Thank you, this is the first time that I got it about money, I read so many articles about that subject and never understood like this time, Thanks, one question if I may Joshua, how do currencies are valued? like Euro $1= 1.25 E, or I dinar Kuwaiti worth $ 3.50, how is that determent, Iraq used to have 1 Iraqi Dinar= $3 now $1=1120 Iraqi dinar, can you please explain that if possible? thanks again

  • Yvette

    Good info b/c I was curious myself. When I start my business I want to invest safely and wisely!!

  • Jjeffrey1

    Joshua…i like the many others want to give you a solid “Pat-On-The-Back” for your very thorough, sincere and down to earth explanation of this subject.
    i have always wondered about where the wealthy “Stashed” their cash and now, after reading your wonderfully thought out comments…i too Finally Get It.
    Congratulations Joshua…..Keep Up the Great Work. I also respect and appreciate your comments to chapmang about Carlos Slim when you say “Honestly, I don’t know enough about him to have an opinion because I
    judge people not just on their acumen in business but how they act both
    in public and private. Do they treat people with respect? Do they have
    integrity and keep their word, even in small things? Are they
    compassionate and understanding? You can still be ruthless in business
    and possess all of these traits.” There is not enough being said out there about the character traits of Honesty, Treating each other with Respect, Integrity, and Keeping our word esp when it comes to Money. Again, Joshua…A Great Effort.
    Well Done.

    • Joshua Kennon

      Welcome to the site =)

  • Albert Ackerley

    Mr Kennon,Thanks for the well explained information on money matters and I believe that we cannot hold cash as liquid but invest in bigger projects which bring big returns.I have been investing in Mining projects and prospects in Europe but looking forward to move to Africa to tap the new potential in Minerals like gold mines in Congo and Oil in Eastern Africa.What would you have to say about Joint ventures,Is it a good way to Invest money wit some people in Africa?

  • Dr. Michael McCain

    Very well written, thank you.

  • Hyderabadi

    I am reading this from south central India. First time in 30 years, I am understanding clearly about money ! Thank you Kennon. Your article on the joy of cash dividends is eye opening as well. Surely this is missing from the school system’s education here.

  • Samuel Little

    fascinating and well written…thanks

  • Sterlen Kemp

    Thanks for this article.

  • Andrew

    Excellent. So when I thought I was “investing” my money in Gold, I was really transferring purchasing power in dollars to a commodity that has sometimes acted like a currency, while speculating on higher valuations via inflation of the US dollar. It appears those expectations were already priced in, and when it looked like the Fed would begin tapering my speculative play dropped in value. I learned an expensive, but hopefully good lesson and will focus on investing from now on!

  • Jeff Wagner

    Excellent, easy-to-read article. It also explains why raising the wages of ordinary workers and upping the minimum wage actually helps the economy more than giving tax breaks to the wealthy. The former spend all they earn, therefore creating demand for goods, services, and ultimately, jobs. That’s why I can’t understand why the wealthy, who really do buy politicians, are against raising wages as that will eventually make them even richer. Or, are they thinking only short-term?

  • Jeff Wagner

    All the available oil on earth: “At current consumption rates, that is enough oil to meet world demand for 54 years. ) And after 54 years, then what? Are we prepared to be without it? Where’s the investment in alternative energies? I sure hope somebody is thinking about that because my great-grandchildren are going to be in big trouble if they aren’t.